How do we deal with a negative contribution margin ratio when calculating our break-even point?
The negative contribution margin ratio indicates that your variable costs and expenses exceed your sales. In other words, if you increase your sales in the same proportion as the past, you will experience larger losses.
My recommendation is to calculate the contribution margin and contribution margin ratio for each product (or service) that you offer. I suspect that some of your items have positive contribution margins, but the products with negative contribution margins are greater. You must get into the details.
You also need to look at each of your customers. Perhaps some customers are buying in huge quantities, but those sales are not profitable. See which customers have positive contribution margins.
By definition, the ways to eliminate the negative contribution margin are to 1) raise selling prices, 2) reduce variable costs, or 3) do some combination of the first two. If customers will not accept price increases in order for you to cover your variable costs, you are probably better off not having the sales. Remember that after covering the variable costs, those selling prices must then cover the fixed costs and expenses. A total negative contribution margin means your loss will be larger than the amount of the fixed costs and expenses.
When setting prices or bidding for new work, you must think of the bottom line—profits. Many people focus too much on the top line—sales.
Learn more about Break-even Point.
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4 Responses to “How do we deal with a negative contribution margin ratio when calculating our break-even point?”
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thank u for your explanations. pls i would like to know under what condition wouldpayment be made on a proforma invoice.
wht other source documents do we have apart from invoiceas
thank u for your explanations. pls i would like to know under what condition would payment be made on a pro-forma invoice.
what other source documents do we have apart from invoiceas
payment can b e made on a pro forma invoice only if some advance is indicated in the said proforma invoice. The payment must reflect in the final invoice which is then aised for the balance payment
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