Cima P2 Exam Question 30

Question No 30:

Explain TWO disadvantages of "total cost plus" pricing?

Total Cost Plus pricing is a pricing technique based on determining the total cost of a product or service and adding a profit percentage to that total cost to determine the selling price.

In a competitive environment any cost inefficiencies or the use of too great a profit percentage will mean that the company is no longer able to compete and will start to lose its market share. As this happens and output volumes fall, then the total unit cost will rise due to the sharing of fixed costs among a smaller number of units. The total cost plus pricing formula will then result in increased selling prices thereby reducing still further the company's ability to compete.

Therefore one disadvantage of this approach to pricing is that it does not consider the nature of the market and as a result can lead to loss of sales and of course profits.
A second disadvantage is that the company is not motivated to save cost because if it does so this simply results in a lower selling price. Indeed if the market supports a total cost plus price then by increasing costs the size of the profit is increased!