When opening a new restaurant, you are going to have to make assumptions about all your expenses and your head counts regardless of whether or not you price by gross profit. Since you will already have those assumptions, it only makes sense that you set prices so that you will collect enough markup (gross profit) from each of those assumed customers to cover all the expenses you are assuming.
Since you won’t have “real numbers” to work with in your startup, it will be important that you create your budgets conservatively. Set realistic expectations for traffic and for expenses, based on your/your advisor’s experience and averages in your area. You’ll need to be doing all this regardless of whether or not you price by gross profit. Pricing by gross profit simply guarantees that if you bring in the customers you assumed, and you keep your expenses down to where you assumed, that you will at least make the profit you budgeted for.
Without pricing by gross profit, you are simply guessing at whether or not there will be enough markup to cover your expenses. Pricing by a budgeted cost percentage doesn’t take into account the other expenses of the restaurant.
In short, budget conservatively and use your assumptions on customer counts and expenses, along with accurate recipe costs to price by gross profit in a startup.
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I’m starting a new restaurant in my area that will serve freshly prepared dinners to go, a number of entrees, sides, 2 soups, and desserts. I’m targeting the market of consumers who pick up dinner on their way home from work. We have a high concentration of homes in the area as well as a high traffic pattern passing the proposed location during the hours that I will be open. I’m trying to put all my costs together and I’m finding that it’s so hard to assume how many customers will come in to start, as well as how many servings of each entree to plan on making. I’ll be selling 1 entree with 2 sides. I’ll have special “two for” rate and a special “family of four” rate, since that is the typical family size in our area. A friend of mine is a successful restaurant owner in another state and she has been advising me to figure out all of my fixed costs first in order to find my break even point. Then I will know how mnay customers I would need to reach that goal. But how do I fugure out how much profit I should target? I’m just confused by this whole process. It seems counter intuitive to me. Shouldn’t I figure out my fixed costs, target a certain percentage of the market, then figure out total sales of my menu items based on the potential? What am I missing?? Thanks, Cathy
To estimate sales, you should be beginning with customer count estimates. If you’re smart, you’ll estimate low to create conservative goals you can achieve.
You should be creating your menu, estimating how many customers you can attract based on your location and your marketing abilities, then using those customer counts to estimate a sales mix. You can set preliminary prices for your menu for the purpose of your business plan, and to estimate sales. These you can set based on your competitors prices. Just know that you can’t know whether or not these prices will return a profit until you run through the gross profit pricing practice.
You’ll have to make assumptions for your operating expenses and profit regardless of what you ultimately base your prices on. Since you’ll have these expense and profit assumptions, and you’ll have customer count assumptions, you’ll have the necessary information to begin pricing by gross profit. Just divide those expenses (minus food cost) by the customer counts. That will be how much markup you’ll need to average per customer to achieve the budgeted profit.
When you’re dealing with discounted items, you need to treat those as a whole new sales item since they will have a different price. If every menu item had the potential to be sold at full price and at half price as a “two-for-1”, then you need to create a recipe for the full price menu item and the half price menu item.
Many times, when going through the practice of setting prices and estimating sales, you’ll find that your pricing ideas won’t allow you to collect enough markup to cover your overhead. At that point, you know it’s time to rethink your pricing/discounting strategy and start over.
Thank you so much for the input. Customer count estimates are exactly where I wanted to start. I feel much more comfortable starting there and it seems to make the most sense. I have all the demographics for the 3 towns surrounding my location and the traffic counts as well and there is a good potential market base there. I have been reading through your articles as well as feedback from others and it’s very useful. I’m hoping to put it all together for a very successful business. It’s going to be a learning experience but I want it to be one based on solid business principles. All of your articles are very helpful. Thanks again!
Hi all I have been set the task of the following and was just after some thoughts or advice. The gross margin % of our food sales in our restaurants has slipped below the budgeted level. It’s my job to find the right way in which to rebuild gross margin % whilst ensuring the impact upon food volumes is minimal. What do you think…?
Any thoughts would be greatly received.
I advise forgetting about the margin percentage and concentrating on the margin dollars. Concentrating on the gross margin percentage is the same as concentrating on the food cost percentage. It doesn’t show you a complete picture. For example, you could sell 10 hamburgers for $8 that cost $2, and your margin percentage would be 75%. But, you could sell 10 steaks instead for $25 dollars that cost $10, run a “less desirable” margin percentage of 60%, but make much more money on the sale because your gross profit contribution from the steak would be $15 compared to only $6 for the burger.
Percentages are a management tool that are meant to alert you to a potential problem. They are not necessarily an indicator that there definately IS a problem, only that there may be. If your gross margin percentage is low, the first thing to do is to determine if it is supposed to be low based on the ideal cost of the items you are selling (Did they cost you what they SHOULD HAVE to sell?). If your ideal food costs and actual food costs are close, but you aren’t making the profit you need to, it’s time to start looking at your sales mix and average gross margin DOLLAR (gross profit) per item. If you’d like some help putting together a system to do that, give me a call. You should also search “gross profit pricing” on my blog and see what I’ve already written.