We have detail infomation of Cost Plus Pricing meaning with Example. Similarly, advantages and limitation of cost plus pricing.
Cost Plus Pricing with Example
Following are the detail information:
Price of the product is determined by adding fixed mark-up on average variable cost. Mark-up means percentage of profit on the basis of cost. Initially, firm estimates average variable cost of production and produces a particular product. The price of the product is calculated by adding a charge for overhead and a percentage mark up on the variable cost.
Similarly, cost plus pricing is a practice where there the price of a product is calculated by a firm on the basis of its direct cost per unit of output plus a markup to cover overhead cost and profit.
The steps of cost plus pricing are below.
1. Determining Actual Cost of Producing a Commodity
In the first step, the firm determines average cost of production (AC). It is the total cost divided by total output. It is shown below.
AC = AFC + AVC
2. Adding Mark-up on Estimated Average Cost
In the second step, mark-up on cost is calculated. Mark up on cost is defined as the profit margin of an individual product expressed as a percentage of per unit cost. In other words, it is percentage of profit on the basis of cost. It is calculated as follows:
P = AC(1 + M)
3. Mark up on Price
Mark up on price is use to determine price of the product. The Mark up on price and mark up on cost are two different to determine the price of the product. Following is the methods to calculate mark up price.
Example of Cost Plus Pricing
A company manufactures a product with a production cost of Rs. 100 per unit. The company wants to apply a markup of 30% to cover overhead expenses and generate profit. Using Cost Plus Pricing, we can calculate the price of the product.
Cost per unit: Rs. 100
Markup percentage: 30%
Markup amount: Rs.100 x 30% = 30
Selling price per unit: 100 + 30 = Rs. 130
Therefore, the company would set the selling price of the product at Rs. 130 per unit, which includes the production cost and markup percentage.
Advantages of Cost Plus Pricing
Following are the advantages of cost plus pricing method:
1. This is the safest pricing method.
2. In this method, there is less uncertainty about cost than about demand.
3. This method is easy and convenient.
4. This method reduces cost of pricing.
5. This method is socially fairer.
6. This method provides a clear justification for price changes.
7. This method ensures profit for business.
Limitations of Cost Plus Pricing
= Following are the limitations of the cost plus pricing methods:
1. This method ignores marginal cost and uses only average cost. So this method is not complete method for optimal pricing decision.
2. This method is not appropriate in the dynamic market where costs fluctuate.
3. This method ignores other economic tools and costs.
4. This method ignores demand side of the market and is solely based on the supply conditions.
5. This method uses historical costs, which may lead to inappropriate pricing and go against the objective of the firm.
Hence, these are the Cost Plus Pricing with Example. Similarly, advantages and disadvantages of cost plus pricing is available here.
Frequentlt Asked Questions:
Following are the frequently Ask question in google with answer.
What is cost-plus pricing?
= Cost plus pricing is a pricing methods that is used by company to determine the price of the product. Price = Cost + Profit.
What is cost-plus pricing advantages?
= Following are the advantages of cost plus pricing
- Simple method to price a product.
- Promote full recovery of all costs of the product.
- It helps to reduce the cost of the product.
- Very easly to understand an apply in any kind business.
What is the effect of cost-plus pricing?
= The major effect is Cost-plus pricing doesn’t take consumers into account.
What is in cost-plus pricing formula?
= Following is the simple formula of cost plus pricing.
- Price: Cost + Profit
Cost: Manufacturing cost, admin cost, marketing cost, etc.
What is cost-plus pricing in pricing strategies?
= The seller need to add the profit to the total cost and calculate the price of the product.