Authored by: Matthew Dieden (Senior Product Marketing Manager)
The best-known restaurant brands are raising prices due to higher costs in an attempt to protect their restaurant profit margins — McDonald’s prices rose 6.4% last year, Outback Steakhouse’s parent company Bloomin’ Brands raised prices 5%, and Chipotle’s prices are up 10% from 2020. But consumers are also feeling the pinch and noticing the increase.
On one hand, restaurant owners can’t bear the entire burden of cost increases. On the other, consumers are also being hit hard by the rising cost of living, so increasing your prices, especially as a franchise with little wiggle room, is not an ideal move.
If you’re puzzling over how to eke out better margins without raising your prices and potentially upsetting your customers, this guide provides strategies to boost your restaurant profit margins without the price hike.
Read on to discover:
- How to calculate your food costs and profit margins
- Practical ways to cut restaurant expenses and costs
- Restaurant menu optimization strategies to boost profit margins
Turn your concern over rising costs into action. Armed with the calculations and strategies below, you’ll be ready to fight for your margins without upsetting your most valuable asset — your loyal customers.
How to Calculate Your Food Costs and Profit Margins
Before you attempt to optimize and improve your margins, you need to grasp some fundamental food cost calculations. Getting accurate figures will enable you to work out your exact margins and pinpoint areas where improvements can be made.
Here are the equations and definitions you should know:
CoGS (Cost of Goods Sold)
Cost of Goods Sold — or CoGS — is an accounting term for the costs incurred directly related to the sale of products. This includes products purchased for resale, as well as raw materials, packaging, and other costs depending on the business.
In the restaurant context, this is basically the cost of your ingredients, so CoGS is also known as Actual Food Cost. Knowing how much you’re spending to produce each dish is a first step toward determining your margins.
To work out how much you spend on food over a given period, take the value of your current inventory and add the cost of any new purchases over the period. Then subtract the value of inventory left at the end of the period from that number..
Actual Food Cost = (Starting Inventory + Purchasing Inventory) – Ending Inventory
Actual Food Cost Percentage = (Actual Food Cost / Revenue) x 100
Actual Versus Theoretical Food Cost & Food Cost Variance
Your Actual Food Cost tells you what you spent on ingredients over a period of time. But we can take our food cost mastery a step further by adding the concept of Theoretical Food Cost. This metric tells you what you should have spent over that period, in an ideal world.
Without taking into account wastage, trim, spoilage, and other unavoidable factors, Theoretical Food Cost gives you a benchmark figure to aim for.
To work out your Theoretical Food Cost over a given period, multiply the cost of a menu item by the number of times it was sold over the period. Then add all the item costs together to get your total figure.
Note: These numbers should be easily accessible from your POS system.
Theoretical Food Cost = Total Cost of Menu Items x Total Sales
Theoretical Food Cost Percentage = (Theoretical Food Cost / Revenue) x 100
The difference between actual versus theoretical food costs is known as the Food Cost Variance.
Food Cost Variance = Actual Food Cost Percentage – Ideal Food Cost Percentage
If your actual food cost is at 30% of revenue and your ideal food cost is at 27% of revenue, your food cost variance is 3%.
Restaurant Profit Margin Equation
Your profit margin is a calculation of the difference between your revenue and costs as a percentage of your revenue.
The Gross Profit Margin accounts for your direct food costs, while your Net Profit Margin also takes into account overheads and other expenses.
Gross Profit Margin = ((Revenue – CoGS) / Revenue) x 100
Net Profit Margin = (Revenue – (CoGS + Overheads + Expenses) / Revenue) x 100
5 Strategies to Boost Your Restaurant Profit Margins
If you want to boost your margins without raising your prices, you need to reduce costs. But there are also other ways to boost your margins too.
Let’s take a look at the best approaches in more detail.
1. Reduce Food Costs
Food cost is the biggest variable in your profit margin equation so it deserves a close look. Figuring out your Food Cost Variance is a good first step to reducing your food costs. It gives you a benchmark to aim for.
The next step is to work out where the variance comes from. This means diving deeper into your food costs at a recipe and ingredient level to see where the pipe is leaking.
Looking at your food cost per menu item should help you identify where savings can be made.
- Your portioning is off — you’re giving out too much food on every plate.
- You are wasting too much food due to poor storage, careless preparation, or over-purchasing. (More on food waste below.)
- You’re paying too much for your ingredients and you need to change suppliers.
- Any number of other factors!
Find where the leak is and plug it to reduce your food costs and immediately improve your profit margins.
2. Cut Food Waste
Food waste is a huge deal in the food industry, with some estimates saying as much as 10% of the food purchased by restaurants ends up as waste. The good news for restaurant operators is that studies show efforts to reduce food waste can pay off $7 to $1.
Not only is this good for society in general, but it means reduced food costs for your business.
A large proportion of restaurant food waste occurs before it reaches the customer — and food that is bought but not sold leads to lower margins on the food that is sold. If you can limit the amount of waste from the ingredients you buy, you can lower your food cost and therefore your margins on every dish.
There are plenty of straightforward, practical strategies for reducing food waste in the kitchen and throughout the restaurant. Here are three actionable approaches:
- Use Real-Time Inventory to Inform Purchasing — Make your procurement system super efficient to minimize over-purchasing. Real-time inventory management software helps you take control, know exactly what you have in stock, predict demand, and even automate your purchasing.
- Sell Surplus Food Via Reclamation Apps — List surplus food on marketplace apps, like Too Good To Go, goMkt, and Food Rescue US, that distribute to consumers looking for a cheap meal. You will have to sell the food at a discounted price, but at least you can reclaim a portion of your costs on food that otherwise would have gone to waste.
- Minimize Mistakes with Better Tech — Mistakes when taking an order, entering it into the POS, or during production lead to entire dishes having to be remade, not to mention grumpy customers. Ordering software reduces mistakes made by hasty scribbling servers, and kitchen display systems reduce errors by better organizing the production line.
3. Reduce Your Labor Cost
Cutting pay and positions isn’t the only way to reduce your labor cost. A little careful trimming can achieve a significant cost reduction without compromising operations.
In fact, believe it or not, paying your employees more could help you lower labor costs.
Here are some ways you can reduce your labor cost without irritating your employees:
- Optimize Schedules — Predict demand and schedule the optimum number of staff. Dedicated scheduling software helps you dig into POS data and make more accurate forecasts of future demand.
- Reduce Churn Rate — Training new employees is expensive. When a new employee is shadowing and learning the ropes, they’re taking up another employee’s time and using up resources without being productive. Better training, better perks, and better management can all help to reduce churn, so you won’t have to spend as many resources getting new staff up to speed.
- Incentivize Good Performance — One of the best ways to reduce churn is to keep your employees engaged and motivated. Incentivizing good performance and rewarding your highest performers will help you hold onto them longer. And paying your best people more could lower your labor costs in the long run.
4. Exploit the Magic of Menu Engineering
Menu engineering, or restaurant menu optimization, is the study of the popularity and profitability of menu items to inform menu design. By eliminating unprofitable and unpopular dishes and promoting the margin-boosting customer favorites, restaurants can achieve as much as a 12% increase in profit margins across the year, according to research by Food & Drink Resources.
Menu engineers typically organize menu items into a matrix that compares popularity with profitability. Using your food cost and profit margin calculations, along with sales data, place your menu items in the appropriate quadrant: high profit/low popularity, high profit/high popularity, low profit/low popularity, low profit/high popularity.
Here’s what to do with your menu items now that you know where they sit on the chart:
- Stars — These are your bestselling and best-margin items so they should be prominent on the menu — although evidently, they sell themselves.
- Puzzles — Push these high-profit dishes and put them in the most prominent position on the menu as your signature dishes.
- Work Horses — Popular but not so profitable, your loss leaders don’t need to be pushed and can fill up the rest of the menu.
- Dogs — Remove low-profit, low-popularity dishes from your menu as much as possible.
As you implement menu engineering over time and track the results, you’ll fine-tune your menu so it’s as profitable as possible without losing its popularity.
5. Utilize Upsells
Upsells typically have very high margins. McDonald’s is the go-to example for how to use upsells as the Golden Arches’ business model depends on them. When you upgrade to a large fry for 20 cents, the cost of the extra fries is almost negligible for the fast-food giant, giving the business an excellent margin.
Think about what you could upsell for a great margin that wouldn’t impact normal operations. For example, could you add:
- Bacon to a burger?
- An extra egg to a brunch dish?
- An extra-large version of a best-selling menu item?
You can achieve excellence on smart upsells, while giving customers a little something extra that they’re happy to pay for.
Boost Profit Margins with a More Efficient Restaurant
A more efficient restaurant enables you to put all of these strategies into play.
Whether you need to get on top of your calculations, reduce food waste, cut labor costs, or increase menu profitability, restaurant management software can help. The best software gives you all the numbers and reports you need to calculate your margins and figure out the profitability of your dishes. It also helps you optimize staffing, reduce waste, and make strides to reduce your food costs.
For a head-start on your profit margin optimization journey, check out how HungerRush helps you run a more efficient restaurant.
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