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At Bean Street Café, owner Emma sells two popular drinks, regular coffee and a special latte.
To decide which drink benefits the business more, Emma calculates the contribution margin for each drink.
Contribution margin shows how much of the sales revenue remains after covering variable costs. This remaining amount helps cover fixed costs and generate profit.
The regular coffee sells for five dollars. The variable costs for beans, cups, and milk total two dollars per cup. Subtracting the variable cost from the selling price gives a contribution margin of three dollars per cup.
Now consider the special latte. It sells for seven dollars, but its variable cost is higher, about five dollars, because it uses extra ingredients such as flavored syrups and milk alternatives. Subtracting these costs gives a contribution margin of two dollars per cup.
Even though the latte sells at a higher price, the regular coffee contributes more per cup toward covering fixed costs and earning profit.
Understanding contribution margin helps businesses compare products and focus on the items that contribute more to overall profitability.