Variable/Marginal Cost Plus Pricing(Part3)

In earlier Part 2,we discussed the Cost Plus Pricing Methodology,here in this article,we look at the variable or marginal cost plus pricing.

Using the variable or marginal cost plus pricing methodology:-

• The selling price is determined by adding a mark up or margin on the total variable costs (marginal cost);
• This is based on the assumption that any price above variable cost would generate a certain level of contribution towards meeting fixed costs;
• This method is consistent with the marginal costing technique;
• When using this pricing method,need to be careful to ensure that it is sufficient to cover all fixed cost and to generate sufficient margin for profit otherwise the long term survival of the business might be at stake;

Useful for contract bidding where competition could be quite intense;

• Eliminates the difficulty of computing fixed costs into the products.

Like cost plus pricing,variable or marginal cost plus pricing methodology has it advantages and disadvantages

Advantages Of Variable/Marginal Cost Plus Pricing

• As it adopts the margin cost approach,it provides better information as it segregate the variable and fixed costs;
• Highlights the importance of contribution;

Disadvantages Of Variable/Marginal Cost Plus Pricing:

• For short term pricing decision,it’s alright otherwise needs to be very careful the pricing in the long term can recover fixed costs and generate sufficient profit for the business;
• Might be unsuitable for production costs consist a lot of fixed costs.

Simple Illustration Of Variable/Marginal Cost Plus Pricing Methodology:

Let’s look at Product A:

Production cost as follows:

Variable/direct material $1.50

Variable/direct labor $1.50

Variable Production overheads $1.00

Variable Administrative overheads $0.50

Variable Selling overheads $0.10

Total variable costs $4.60

Say required mark up of 65% $3.00

Variable Cost Plus Pricing $7.60

The selling price is determined at $7.60 where the company wants Product A to at least cover its total variable cost and contribute towards recovery fixed costs and profit.

• Full Cost Plus Pricing Methodology(Part2)
• Break-Even Pricing And Minimum Pricing Methodologies(Part5)
• Management Accounting Question No TCA1-Comparing Absorption Cost And Marginal Costing
• Answer to Management Accounting Question No TCA1 re:Marginal Vs Absorption Costing
• Factors Affecting Pricing(Part 1)
• Rate Of Return Or Rate Of Investment Pricing Methodology(Part4)
• Reasons For Implementing Intra Group Transfer Pricing(Part1)