You keep hearing these terms if you work in E-Commerce, so what exactly is CM1, CM2, CM3 Positive or negative, people in your office keep talking about?

CM stands for Contribution Margin

and it’s usually calculated at 3 levels (i.e CM1, CM2, CM3)

CM1 (Contribution Margin 1):-

CM1 = Net Revenue (Revenue after doing away with GST, Taxes, Returns, Cancellations) – COGS (Cost of Goods Sold) – Other Costs to Deliver/Service the product

CM2 (Contribution Margin 2):-

CM2 = CM1 – Advertising Spend

CM3 (Contribution Margin 3):-

CM3 = CM2 – Brand Marketing spends (Costs incurred for brand building, marketing, can include sampling costs, celebrity, influencer costs)

EBITDA:-

CM3 – Fixed Costs (Salaries, Office expenses etc.)

Why being CM3 Positive is essential for an E-Commerce brand?

As an E-Commerce brand grows, so do revenues and variable costs, fixed costs also grow but should grow at a very slow rate, teams ideally should be lean, and can be shared between multiple brands under the same umbrella parent company.

Now let’s consider a scenario:-

• Initial Net Revenue : 1Cr
• Initial Fixed Costs : 30L
• Initial Variable Costs: 1.1Cr (No one is a pro since the start, you will have higher COGS, higher CAC initially)

Now each year your brand’s costs, and revenues will grow

• Your brand’s net revenue is increasing YoY by 45%
• Fixed costs increase by 20% (You will be giving out appraisals to your team, hiring more, and office expenses etc.)
• Variable costs increase by 30%

Given the above scenario, the brand should become CM3 Profitable in year 2, and maintaining a similar growth in revenues, and costs, should become EBITDA positive in Year 5.

See how growing revenue, and once being CM3 Positive, and maintaining a consistent growth rate after that makes your E-Commerce brand profitable. That’s why VCs and Business heads are always tracking CM3 profitability for brands regularly. This is easier plotted on excel sheets and graphs than done, since most brands aren’t able to retain customers effectively at the same time aquire new customers given the ever increasing CAC’s, but if you have done so, and achieved CM3 Positivity, CONGRATULATIONS!

Note: Different startups, different brands can have slightly different meanings of CM1, CM2, CM3 etc.

Hope this article clarifies your questions! Do comment any thoughts, suggestions or questions you might have!