What pricing approach sets selling price higher than direct costs to contribute to indirect costs?

What pricing approach sets selling price higher than direct costs to contribute to indirect costs?

• A. Contribution pricing
• B. Competitive pricing
• C. Cost-plus pricing
• D. Product life cycle

Answer: (A)

The idea being tested is pricing that ensures every sale helps cover overheads by adding a contribution above the direct cost. When you set a price higher than the direct costs (materials and direct labor), the difference—the contribution per unit—can be used to absorb indirect costs like overhead and, ideally, generate profit. This approach focuses on the margin above direct costs to contribute toward fixed or indirect expenses, rather than simply applying a markup to total cost or chasing external prices. For example, if direct costs per unit total 40 and you price at 60, the 20 that’s left is the contribution that goes toward overhead and profit. This is distinct from cost-plus pricing, which bases price on total cost (including indirect costs) plus a markup, or competitive pricing, which centers on market prices, or lifecycle pricing, which varies by product stage.

The idea being tested is pricing that ensures every sale helps cover overheads by adding a contribution above the direct cost. When you set a price higher than the direct costs (materials and direct labor), the difference—the contribution per unit—can be used to absorb indirect costs like overhead and, ideally, generate profit. This approach focuses on the margin above direct costs to contribute toward fixed or indirect expenses, rather than simply applying a markup to total cost or chasing external prices.

For example, if direct costs per unit total 40 and you price at 60, the 20 that’s left is the contribution that goes toward overhead and profit. This is distinct from cost-plus pricing, which bases price on total cost (including indirect costs) plus a markup, or competitive pricing, which centers on market prices, or lifecycle pricing, which varies by product stage.