Entire books have been written about pricing (one of my favourites being "Priceless" by William Poundstone), so it's hard to keep a blog article on this topic succinct. But I will try. I will start with a funny anecdote taken from the aforementioned book. A souvenir shop in a touristic village sells quartz necklaces in various colours. The blue quartz one is not selling. The owner goes away for the weekend and leaves a note to the store manager, asking her to half the price of the blue quartz necklace. For reasons unknown to us, the store manager mistakenly doubles the price! And you know what happens? When the owner comes back on Monday the shop has sold out of blue quartz necklaces!
This is just a simple anecdote to show that price is not just a number, but rather a marketing tool. When we set a price we are in fact sending a message or sometimes making a bold statement.
Would you price something on your menu at £9.99 or rather use £9.95 or £10? And why have you chosen this price? Is it based on food cost? Or is it based on perceived value? Have you checked your competition? Could you have priced it any higher? What will you increase the price to when your costs inevitably rise?
If we are opening a restaurant there are a series of factors that will influence our prices. And hopefully we will have made all these considerations before actually signing the lease!
The first thing we should look at is our competition. This will give us an idea of what price range is our target audience used to and how far we can go. If you are based in a working class neighbourhood, opening a classy bistro with high priced dishes is probably out of the question.
The second consideration should be our food cost. As this is a blog for small restaurant owners, we don't necessarily want to create cost cards for every dish, but we need to have a good idea of what our basic ingredients and most popular dishes cost.
Then we should go on and set our prices. In my opinion 9.99 and the likes are better left to fast food and cheap and cheerful outlets as the convey a message of "cheap" and "bargain". Exclusive restaurants (for instance Michel star ones) will normally just use whole numbers as their clientele is not price sensitive. For our small restaurant we can either use whole numbers or possibly 9.25, 9.50, 9.75 and 9.95/10. I find 9.95 way more elegant than 9.99 and portraying an image of quality more than justifies losing the 4 pence. One of the advantages of using this progression is that often customers won't notice the difference if prices are increased as people tend to look at (and remember) the first digit.
When we set our prices is very important that we consider the VAT. I very often see owners miscalculating their profit margins as the fail to remove the VAT from their prices. If your dish sells for £12 and the food cost is £2.50, you are not making £9.50 gross profit, but rather £7.50 (12/1.2 - 2.50).
When we finally get to our theoretical price we then want to consider whether we can actually use a slightly higher price. Are we using ingredients that justify a higher price (meat from the local farm shop, free range, an expensive cut of meat or veg? Are we offering a dish that normally commands a higher price than our theoretical price, for instance a burger or a steak? A good method to test your customers price sensitivity is to add one or two high priced dishes on your menu and see how they perform. As long as customers can understand why a dish is expensive and they perceive value, they will be happy to pay for it. You may be surprised at what people are willing to spend. A high priced dish will often have a higher food cost percentage, but in this case, as described in my post about food cost we should rather look at the absolute gross profit. If you do this, and see that customers are willing to pay higher prices than you thought, then you should increase your prices! If your pizzas sell well for £10, why not try £10.75 or £11.00?
A lot of owners have mental barriers that they are worried to push. £10 sounds good and fair, and give us a good profit margin. But £10.75 is better! Although this may sound cynical, we are in the business of making money and we should maximise our profits. We can always give back to society through charity and other good causes. Owners often fail to look at the big picture. You may think "why bother increasing a price by 50 pence? What difference is it going to make? On one count they are actually right, your customers won't care or even notice a 50 pence increase. But you will, when you read your profit and loss statement at the end of the year. if you sell 10000 pizzas a year, a 50p increase will generate an extra £5000 in revenues! Also because this 50p if above your theoretical price, this is literally £5k extra profit (well £4166 removing the VAT). Not too shabby.
Finally always consider that increasing prices dramatically from one day to another is not feasible. We should start with carefully thought of prices, choose a range of possibilities and price at the higher end of the range. Price based on value and not cost. If you have to increase prices by a lot, your best strategy is to introduce new dishes, gradually if you can, or to change the whole menu.
The short answer is no.
Of course we need to keep an eye on our food cost and of course we need to know what our dishes cost (more on this later) but only looking at the food cost or beverage cost as a percentage doesn't help us. For instance in large companies is very common to set the food cost at around 25% and this will most likely be a Key Performance Indicator for the Executive Chef and the one thing he will receive the most grief for.
This is especially true when we look at individual dishes, rather than the whole menu. For instance you may have a dish with Lobster or and expensive cut of beef and selling it at 4x cost (plus 20% VAT) may just make it too expensive or not competitive. Say for instance this dish cost you £5 per portion, you should sell it at £24 (£5x4cost +20% VAT)but as this would be too much you decide to sell it for £19.95 or £16.63 + VAT, which is 30% food cost (£5/£16.63 x 100).
Now take a normal dish, say a pasta, which costs you £2.00 per portion and you resell at £2.00 x 4 +VAT = £9.60.
PASTA DISH GROSS PROFIT: £6.00
LOBSTER DISH GROSS PROFIT: £11.63
Now let's pretend these are both pasta dishes, one with Bolognese and one with lobster. Your customers will only have one pasta dish per meal. Which one would you rather sell? You can play with the figures but the idea stays the same, sometimes we need to look at absolute profit rather than food cost as a percentage.
On a little side note, I think it's very important to maintain some sort of minimum price for all our dishes in a certain category. For instance your pasta category. If you have a pasta with tomato sauce on the menu you don't want to just look at the food cost to set up your price as the price (and the gross profit) may be too low and if you end up selling loads of this dish, yes you will have a very low food cost at the end of the month, but your bank balance will be very low too!
Alan shares his experiences, struggles and tips to help other small restaurant operators.