Cost-plus pricing, n. gerund, delusional.
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- From “The Strategy & Tactics of Pricing” Nagle & Holden, 2nd edition (1987 & 1995):
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Cost-plus Pricing:
- carries an aura of financial prudence
- blueprint for mediocre financial performance
- impossible to determine product’s cost before a price has been setâ€
cost = f (volume) = f (price) but if price = f (cost) then you create an infinite loop which can will lead to the wrong solution (flawed circularity or – speaking in engineering rather than tabloid terms – catastrophic)
- creates a catastrophic cycle of a decline when competition increases: volumes decline, then overheads allocated to the products will increase leading to increased prices, which in turn will drive volumes down, increases overheads, etc
2. Cost-plus pricing assumes costs are accurate, which is rarely the case, and, in reality, there is no good way of defining – let alone allocating – overheads:
cost = f (allocations) = f (volume) = f (price), and again, if price = f (cost) then you create an infinite loop which can will lead to the wrong solution (flawed circularity or – again, speaking in engineering rather than tabloid terms – catastrophic)
3. Sub-optimized pricing. Every price created by cost-plus pricing is either too high or too low. Every price could and should be improved.
