The contribution is the difference between the selling price and variable cost (or marginal cost) is known as `contribution’ or `gross margin’. It may be considered as some sort of fund from out of which all fixed costs are met. The difference between contribution and fixed cost represents either profit or loss, as the case may be.
The contribution is calculated using the following formula:
Contribution = Selling Price – Variable Cost= Fixed Cost + Profit Or – Loss
It is clear from the above equation that profit arises only when contribution exceeds fixed costs. In other terms, the point of ‘no profit no loss’ will be at a level where the contribution is equal to fixed costs.