Question

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17) Disadvantages of Cost + Pricing ?

Answer 1

Cost plus pricing simply means adding markup to cost of goods as to arrive at the desired selling price. To arrive at cost, the major cost of direct materials, direct labor and direct expenses are added to overhead. However, this approach has various disadvantages as listed below :

a. Contract cost is overrun : This happens generally in the government contracting cases. The contract is generally a cost plus agreed profit as per negotiation. The contractor hence wants to add as much as cost is possible so as to get lucrative margin added to the cost. Hence, in contractual arrangement, costs are overrun with intention.

b. Product cost is overrun : This is related to research and engineering for development of product. In this case, the engineering department are not well compensated for the desired results rather they simply designs what the requirement is and launches the product as fast as possible.

c. Inappropriate for large product portfolios : The costs become difficult to allocate and segregate to products as there are number of products. The cost plus pricing is hence, only appropriate to single product companies.

d. This method ignores competition : When the company charges margin over the cost to arrive at selling price, it is monumentally ignoring the competitors with different price pockets who are trying to dislocate and expand in market with penetrative and skimming price policies. Hence, cost plus pricing ignores the competition.