Reader Question Regarding Menu Prices

Subject: How to off-set food cost ?
Joe,
I have been interested in your recent comments on inventory levels affecting food cost. After a company would get their purchases and orders in line and start to control their waste at a unit level, at what point would you consider raising the sales prices of their entrees to help compensate for the increase in supply costs? How would you raise prices? Gradual or once a year? Do you have any suggestions?
Thanks,
Chuck


Chuck Pagnotto
Director of Research & Development
Escape Enterprises

Chuck,
I would raise the prices prudently and let your customers know why the increase is needed. The recent run up in oil prices and subsequent move to greater use of ethanol is driving food costs up (8% in last 6 months). Treat this as a "one time" action necessitated by the rapid rise in costs.

It's always good to watch every competitor closely. Just a few months ago, the casual American grill group was in a price war.

As to the normal calendar, I like to increase beverage prices before the summer season and food prices before the year end Christmas season (annually).

Thanks for the question!

Joe

Month End Surprises

When food cost percentages are in flux, its common to experience numerous month end surprises. Most of the good surprises will spark a round of high fives and optimistic conversations about bonus time. On the other hand, a bad surprise marks the start of a cost reduction campaign and lots of meetings to find out the cause of the problem.

Most surprises occur because communication is inadequate.

To prevent the majority of month end surprises, implement a simple weekly flash report. The flash report should be prepared at the operations level and communicated to general management via the accounting staff. At a minimum, the report should contain weekly statistics on sales, food and beverage purchases, other purchases, payroll recap, gross profit and management comments.

Once these reports become a reliable tool, the number of month end surprises will decline. As managers become aware of a bad week and take prompt action, profitability will become stable and fluctuations will be minor.

The key to implementing a flash report system is simplicity. Don't turn this into a production on the level of the month end close. The purpose of the flash report is to point out major issues in a timely fashion. Some reports will appear too good to be true. A lost invoice will stick out like a sore thumb in a weekly recap but go unnoticed in a monthly statement.


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Food Inventory Levels

One of the quickest ways to lower your food cost is to reduce the amount of food stored in the freezers and coolers. Since a lower food cost percentage is associated with a higher ending inventory value, it may not seem logical. However, a high inventory only helps out for one period. In the long run, you want as low an inventory level as possible.

With less food on the shelves, you'll reduce your spoilage cost. I'm often asked for benchmark information. With regard to inventory turns, I prefer at least 24 turns per year. I've seen operators with limited storage turn inventory 3 times a month. If you have over 3 weeks of cost of goods sold on the shelf, you have a problem.

If you run a restaurant with $3,000,000 in annual sales volume and a 33% food cost target, purchases would run $1,000,000. You should avoid ending inventories of $50,000 or higher. If you reduce the value to $40,000, you'll be in the zone. On the other hand, dropping to $25,000 may stress the ordering and receiving teams too much. Adjust the level over time and observe the impact on both food cost percentage and in stock outs.

Holding large quantities of perishable foods will tie up cash and increase the probability of "blowout specials" at dinner. I have had many disappointing meals during my travels which were highly recommended by the wait person. These employees were told to push items which were in danger of spoilage. I never return to restaurants after a disappointing experience with a highly promoted special.


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Volatile Food Cost Results

Some operators experience wide swings from month to month in their food cost percentage. Trying to analyze a moving target can be a rough task. One month, everyone agrees the rising costs of raw ingredients are the reason food cost is way high. The next month, the cost plummets to a number far less than just 30 days ago.

So why did the cost go down so dramatically? Its possible the bad month wasn't quite as bad as we thought and the good month simply balanced the ledger.

To test this theory you should check purchases as a percentage of sales. To illustrate, let's use a seafood restaurant with monthly sales of $250,000 and a target food cost percentage of 34%. During a two month test, the food cost % went from 42% to 31% (sales were steady). We look at the purchases in month 1 and find they total $90,000. Month 2 purchases drop to $80,000. Taking these numbers as a percentage of the $250,000 sales figure, we get 36% and 32%. For the period, our average purchases came in at the 34% target food cost.

Period 1 must have had a $15,000 drop in the inventory value (6% of sales). The inventory must have increased $2,500 in period 2 (1% of sales). So what happened? Did high cost of ingredients hurt our period 1 results? I doubt it.

My guess is the period 1 beginning inventory was too high causing the huge variance. The high inventory went unchallenged because management wanted to believe the good news the previous month (caused by the overstatement). When the party ended in period 1, food cost came under a microscope and purchases dropped by $10,000 or 4% of sales.

Let's stop right there! This is a drop in purchase volume of over 11% from the prior month. Sales were steady. Ingredient prices probably did not provide the drop. Most likely, greater management attention and tighter control provided the drop in purchases.

This volatile pattern is referred to as the good-bad-good curve. In reality, we only had one good month - Period 2. If you run numbers like these, you'll be mediocre 2/3 of the time and on your game about 4 months a year.


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