# What is Cost Plus?

Cost plus pricing is a cost-based method for setting the prices of goods and services. Under this approach, you add together the direct material cost, direct labor cost, and overhead costs for a product, and add to it a markup percentage (to create a profit margin) in order to derive the price of the product. Cost plus pricing can also be used within a customer contract, where the customer reimburses the seller for all costs incurred and also pays a negotiated profit in addition to the costs incurred.

The Cost Plus Calculation

As an example, ABC International has designed a product that contains the following costs:

• Direct material costs = \$20.00
• Direct labor costs = \$5.50

The company applies a standard 30% markup to all of its products. To derive the price of this product, ABC adds together the stated costs to arrive at a total cost of \$33.75, and then multiplies this amount by (1 + 0.30) to arrive at the product price of \$43.88.

The following are advantages to using the cost plus pricing method:

• Simple. It is quite easy to derive a product price using this method, though you should define the overhead allocation method in order to be consistent in calculating the prices of multiple products.
• Assured contract profits. Any contractor is willing to accept this method for a contractual agreement with a customer, since it is assured of having its costs reimbursed and of making a profit. There is no risk of loss on such a contract.
• Justifiable. In cases where the supplier must persuade its customers of the need for a price increase, the supplier can point to an increase in its costs as the reason for the increase.