The impact on net operating income of a small change in sales for a segment is best predicted by using contribution margin ratio .
A company's contribution margin ratio (CM ratio) is determined by dividing revenue by revenue less all variable costs. It stands for the small gain from manufacturing an extra unit. The corporation should either discontinue the product or raise pricing if a product's contribution margin is negative because it means the company is losing money on every unit it produces. A product is usually worthwhile to keep if it has a positive contribution margin.
A contribution margin percent or ratio should be as close to 100 percent as possible. The more money is available to pay for the company's fixed expenditures or overhead charges, the higher the ratio. The contribution margin ratio is most certainly significantly below 100%, most likely at or below 50%.
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