Variable Cost-Plus Pricing

Variable Cost-Plus Pricing is a pricing method that adds a markup to the variable costs of producing a product or service. The markup is typically based on the company's desired profit margin.

Variable costs are the costs that vary directly with the production volume. For example, the cost of materials and labor would be variable costs for a manufacturer.

The variable cost-plus pricing formula is:

Price = Variable Costs + Markup

The markup is expressed as a percentage of the variable costs. For example, if a company has variable costs of $100 and a markup of 20%, the price would be $120.

Variable cost-plus pricing is a simple and easy-to-use pricing method. However, it does not take into account the demand for the product or service. As a result, the company may set a price that is too high or too low, resulting in lost sales or profits.

Another disadvantage of variable cost-plus pricing is that it does not encourage cost-savings. Since the markup is based on the variable costs, the company has no incentive to reduce its variable costs.

Variable cost-plus pricing can be a good option for companies that are just starting out and do not have a lot of experience with pricing. However, as the company grows and becomes more experienced, it may want to consider using a more sophisticated pricing method.

In addition to the basic variable cost-plus pricing formula, there are a few variations that companies can use. For example, some companies add a fixed cost markup to the variable costs. This fixed cost markup can be used to cover the company's fixed costs, such as rent and salaries.

Another variation of variable cost-plus pricing is called target costing. With target costing, the company sets a target price for the product or service. The company then works backward to determine the variable costs and markup that are needed to achieve the target price.

Variable cost-plus pricing is a common pricing method that is used by many businesses. However, it is important to understand the advantages and disadvantages of this method before using it.