You learned in Financial Accounting about the income statement.
There are two approved ways of reporting income to external users, the Single Step format and the Multi-Step format.
Here is an example of the Multi-Step format.
Note the operating income of $9700. We will refer to that again at the end of this video, but now I wanna introduce you to a new format for the income statement known as the Contribution Margin Income Statement format. This format is not acceptable for external reporting, but it is used almost exclusively for internal reporting and decision-making purposes.
The Contribution Margin Income Statement reports expenses or costs by behavior rather than function, which is how the Multi-Step format reports expenses. So revenues are listed first and from that we subtract variable expenses and this equals contribution margin.
You might think of contribution margin as the product's price minus all of its variable costs.
Thus contribution margin is the incremental profit earned on each unit sold.
Contribution margin then is used to cover fixed costs and normal profits.
So from contribution margin we subtract fixed costs and that equals our operating income which is the same operating income, that we have when we use the Multi-Step format.
Here you can see the same data from the Multi-Step income statement rearranged into the Contribution Margin Format and again notice that operating income is still $9700.
Although it gives us the same operating income the contribution margin income statement is widely used for internal purposes because it provides better information for cost volume profit analysis, short-term business decisions, and it's even used a little bit when doing budgeting.