Question

how is a contribution margin income statement different from a regular (GAAP) income statement?

Answer 1

Solution:-

How is a contribution margin income statement different from a regular (GAAP) income statement:-

A contribution margin income statement is an income statement in which all variable expenses are deducted from sales to arrive at a contribution margin, from which all fixed expenses are then subtracted to arrive at the net profit or net loss for the period. Thus, the arrangement of expenses in the income statement corresponds to the nature of the expenses. This income statement format is a superior form of presentation, because the contribution margin clearly shows the amount available to cover fixed costs and generate a profit (or loss).

In essence, if there are no sales, a contribution margin income statement will have a zero contribution margin, with fixed costs clustered beneath the contribution margin line item. As sales increase, the contribution margin will increase in conjunction with sales, while fixed costs remain (approximately) the same. Fixed costs will increase if there is a step cost situation, where a block of expenses must be incurred to meet the requirements of an increase in activity levels. For example, sales may increase so much that an additional production facility must be opened, which will call for the incurrence of additional fixed costs.

A contribution margin income statement varies from a normal income statement in the following three ways:

• Fixed production costs are aggregated lower in the income statement, after the contribution margin;

• Variable selling and administrative expenses are grouped with variable production costs, so that they are part of the calculation of the contribution margin; and

• The gross margin is replaced in the statement by the contribution margin.