LESSON 5 OF 13
Contribution profit: the metric that answers the question
The one number that tells you whether a decision helped or hurt.
There is one metric that answers most of the important questions inside a business, and it becomes available as soon as you have separated your expense types. It is called contribution profit.
The arithmetic
Contribution profit is revenue minus your variable expenses, and that includes advertising. Net profit is contribution profit minus fixed expenses. That is the whole profitability equation — there is no calculus in it, it is literally subtraction.
| Business A | Business B | |
|---|---|---|
| Revenue (week) | $5,000 | $5,000 |
| Variable expenses | $3,000 | $3,000 |
| Contribution profit | $2,000 | $2,000 |
| Fixed expenses | $1,500 | $2,800 |
| Net profit | $500 | −$800 |
Same revenue, same variable costs, same contribution profit. The only difference is the weight of the fixed expenses — and it is the difference between making $500 and losing $800.
Why it changes how you operate
The real reason contribution profit matters is what it tells you over time. If you are wondering whether the new agency is working, whether the new campaigns are working, whether the pricing change helped — graph contribution profit and put a trend line on it.
If the trend line is going up, it is working. If it is going down, it is actively taking contribution profit away from the business.
Testing free shipping and want to know whether it is helping or hurting? Look at contribution profit over time. It will answer the question, and it will answer it before the P&L arrives.
What it looked like in practice
BottleKeeper's business was heavily cyclical. It lost money in Q1 every single year, and spent the quarter working out how to lose as little as possible. Q2 was profitable, largely on Father's Day and the run-up to summer. Q3 was mediocre. Then it did roughly half its annual revenue in the last six weeks of Q4 — meaning it had to hit a grand slam every year to make the year.
What made that survivable was reading contribution profit as a leading indicator. It showed clearly when to pull back to conserve inventory and create efficiency going into slow periods, and when to surge ad spend going into strong ones — along with exactly how that spend had to perform to produce the required profit.