PRICING THE MENU SALES REVENUE:- Cash inflows that accrue to the organization when it sells its goods and services. It is an economic axiom (law) that a firm would always try to maximize its sales revenue in a given period. From its Sales Revenue a firm would seek to cover its Expenses in the same period.

PRICING THE MENU FACTORS INFLUENCING SALES REVENUE: (1) The Selling Price the firm charges for its goods and services (ie. menu items); and (2) The amount of goods and services sold in a given period (ie. the inventory turnover rate). NB: [SALES REVENUE = Selling Price X The Turnover Rate]

PRICING THE MENU FACTORS AFFECTING SELLING PRICE CHARGED: (1)The firm’s target market (the law of demand); (2) The cost of production/standardized recipe (ie. direct/prime cost); (3) The size of the “C-Factor chosen” with regards wastage, spoilage and theft; (4) The Supplier Portfolio (trade discounts and credit period extended);

PRICING THE MENU FACTORS AFFECTING SELLING PRICE CHARGED: (5) The extent of competition faced; (6) Seasonality (7) The Cost Percentage chosen (and Gross Profit desired); (8) The price elasticity of demand; and (9) Factors in the External Environment: ( Economic; Political; Legal; Technological; and Socio-Cultural ).

PRICING THE MENU FACTORS AFFECTING THE INVENTORY TURNOVER RATE:- (1) The firm’s target market (the law of demand); (2) The quality and quantity of output/menu items; (3) The Cost of Production (cost of inventories); (4) Capacity of operations; (5) Seasonality; (6) The extent of competition faced;

PRICING THE MENU FACTORS INFLUENCING THE INVENTORY TURNOVER RATE:- (7) Pricing strategy; vis a vis the elasticity of demand; and (8) Factors in the External Environment: (Economic; Political; Legal; Technological; and Socio-Cultural ).

COST STRUCTURES OF THE FIRM (1)Direct/Prime Costs: Expenses directly associated with production and the generation of Sales Revenue; eg: cost of inventories; fuel cost; etc; (2) Indirect/Overhead Costs: Expenses indirectly associated with production; BUT allows for operational efficiency; eg: rent; administrative expenses; advertising; maintenance; security; legal fees; etc; and

COST STRUCTURES OF THE FIRM (3) Labour Costs: expenses incurred in the use of the human factor; typically identified as a wage or salary. NB: IT SHOULD ALWAYS BE REMEMBERED THAT THIS FACTOR IS CRITICALLY IMPORTANT IN THE SUCCESS OF THE FOOD & BEVERAGE INDUSTRY SINCE THIS INDUSTRY IS A LABOUR INTENSIVE INDUSTRY, AND SHOULD THEREFORE BE REWARDED ADEQUATELY.

SALES REVENUE AND COSTS INCURRED FOR A GIVEN PERIOD Sales Revenue represents the total amount of cash- inflows for a given period (100%). From this cash- inflow for the period the firm must cover its expenses and minimize cash-outflows; From a food & beverage perspective, Sales Revenue must be budgeted using the following “rule-of- thumb” ratios when determining operational efficiency for a given period:-

SALES REVENUE AND ITS MANAGEMENT (1)< 40 % of Sales Revenue should be absorbed in covering direct/prime costs for the period; (2) < 20 % of Sales Revenue should be absorbed in covering indirect/overhead costs for the period; (3) < 30 % of Sales Revenue should be absorbed in covering labour costs for the period; and

SALES REVENUE AND ITS MANAGEMENT (4) > 10 % (or more) of Sales Revenue should be left over as NET PROFIT after ALL expenses are met for the period. NB: Sales Revenue (cash inflows) are HIGHLY UNCERTAIN; whilst Expenses (cash outflows) are HIGHLY CERTAIN for the same period.

SALES REVENUE AND ITS MANAGEMENT RELATIONSHIPS: (1)Sales Revenue = Total Direct Expenses ( 10 %) …. For the period. (2) Sales Revenue = Total Direct Expenses ( 60 % of Sales Revenue) …. For the period; and (3) Gross Profit = Total Indirect Expenses + Total Labour Costs + Total Net Profit for the period.

SALES REVENUE AND ITS MANAGEMENT RELATIONSHIPS (4) (Food/Beverage) Cost Percentage = Total Direct Costs/Sales Revenue for the period…. (< 40 % of Sales Revenue); and (5) Gross Profit/Contribution Margin Percentage = Total Gross Profit/Sales Revenue for the period…. (> 60 % of Sales Revenue).

SELLING PRICE AND ITS MANAGEMENT NB: Remember Sales Revenue is a function of: (1)Selling Price charged; and (2) The amount of output Sold Sales Revenue = Selling Price X The amount of items sold in a given period (ie. The Inventory Turnover Rate)

SELLING PRICE AND ITS MANAGEMENT From this analysis, and from a food & beverage perspective, a menu item’s selling price must ALSO perform the following four (4) functions simultaneously:- (1) Cover the direct (production) cost of making the menu item; this being no more than 40 % of the item’s selling price (ie < 40 % of Selling Price should cover the direct cost of an item);

SELLING PRICE AND ITS MANAGEMENT (2) Make a contribution towards the firm’s Total Indirect/Overhead Costs for the period; this being no more than 20 % of the item’s selling price (ie. < 20 % of an item’s selling price should make a contribution towards the firm’s Total Indirect/Overhead Costs for the period);

SELLING PRICE AND ITS MANAGEMENT (3) Make a contribution toward the firm’s Total Labour Costs for the period; this being no more than 30 % of the item’s selling price (ie. < 30 % of an item’s selling price should make a contribution towards the firm’s Total Labour Costs for the period); and

SELLING PRICE AND ITS MANAGEMENT (4) Make a contribution towards the firm’s Net Profit (if any ?) for the period; this being at least 10 % (or more) of the item’s selling price (ie. > 10 % (or more) of an item’s selling price should make a contribution towards Net Profit for the period). NB: The Net Profit of an item’s selling price is never guaranteed unless and until the firm can manage its costs AND devise an appropriate Selling Price for its menu items.

SELLING PRICE AND ITS MANAGEMENT RELATIONSHIPS: (1)Selling Price of an item = Total Direct/Prime Cost of the item ( 10 % or more) (2) Selling Price of an item = Total Direct/Prime Cost of the item ( 60 % of Selling Price)

SELLING PRICE AND ITS MANAGEMENT RELATIONSHIPS (3) (Food/Beverage) Cost Percentage = Total Direct or Prime Cost of the item/the Selling Price of the item…. ( < 40 % of the item’s Selling Price); and (4) Gross Profit Percentage = > 60 % of the item’s Selling Price.

THE COST PERCENTAGE The (Food/Beverage) Cost Percentage is the tool used to assess the efficiency of operations in a period, when:- (1)Managing the cost of production; and (2) Maximizing Gross Profits/Contribution Margin. The (Food/Beverage) Cost Percentage is a percentage relationship between the cost of production and cash inflow when selling an item or group of items on the menu.

THE COST PERCENTAGE The (Food/Beverage) Cost Perspective can be looked at from two (2) perspectives: (1)(Micro Approach)The percentage relationship between the Direct/Prime Cost of an item and its Selling Price (ie. Direct/Prime Cost of the item/the item’s Selling price… < 40 % of the item’s Selling Price) Ideally, the Direct/Prime Cost of an item should generally never exceed more than 40 % of its Selling Price, allowing a Gross Profit/Contribution Margin of at least 60 % of the item’s Selling Price remaining.

THE COST PERCENTAGE (2) (The Macro Approach) The percentage relationship between the total cost of inventories sold in the period (ie. the “Cost of Goods Sold/Cost of Sales figure on the Income Statement) and Sales Revenue earned in that period. [C.O.G.S/C.O.S. = Opening Stock + Purchases –Closing Stock] (ie C.O.G.S/Sales Revenue ….. < 40 % of Sales Revenue for the period) Ideally the C.O.G.S/C.O.S figure should be no more than 40 % OF Sales Revenue, allowing for a Gross Profit/Contribution Margin of at least 60 % of Sales Revenue remaining.

THE COST PERCENTAGE (1)(MICRO APPROACH): Direct or Prime Cost of Item/Item’s Selling Price; and (2) (MACRO APPROACH): C.O.G.S or C.O.S/Sales Revenue for the period. Ideally, in both instances, the (Food/Beverage) Cost percentage should ideally be 60 %.

SELLING PRICE DETERMINATION Whether one or many items are sold, the food & beverage operator needs firstly to keep the (Food/Beverage) cost percentage in check (ideally at under < 40 % of Selling Price of the item). By doing this, at least > 60 % of Selling Price remains, accruing to Gross Profits/Contribution Margin for the period.

SELLING PRICE DETERMINATION Poor pricing strategy is a major reason for unprofitable and inefficient operations. Either the cost of producing menu items are too high; or the firm cannot effectively meet its commitments in paying its Indirect and Labour Costs for the period, and/or generating sufficient Net Profits to allow for expansion and diversification over time. Thus an item’s selling price is sub-divided between (1) its Cost Percentage; and (2) Its Gross Profit/Contribution Margin.

SELLING PRICE DETERMINATION When a menu item’s (Food/Beverage) Cost Percentage exceeds > 40 % of its selling price, this is risky and can be for the following reasons: (1)The Selling Price is too low; (2) The cost of inventories to produce the menu item is too high (Inflation ? …. Depreciation of the dollar ? …… Poor Supplier Portfolio ? ……. Seasonality ? ….. Incorrect determination of the item’s Standardized Recipe ? …); (3) Wastage, Spoilage and Theft of inventories; (4) Employees not following Standardized Recipes; (5) Unqualified and inexperienced employees; compounded by falling productivity and work ethics;

SELLING PRICE DETERMINATION When a menu item’s Gross Profit/Contribution Margin is < 60 % of its Selling Price, this can be risky for the following reasons: (1)The firm would have difficulties in meeting its Indirect/Overhead Costs for the period within rule-of- thumb benchmarks (< 20 % of Selling Price) (2) The firm would have difficulties in meeting its Labour Costs for the period within rule-of-thumb benchmarks (< 30 % of Selling Price); and (3) The maximization of Net Profits would not be sustainable for the period within rule-of-thumb benchmarks (> 10 % or more of Selling Price).

SELLING PRICE DETERMINATION DETERMINING THE SELLING PRICE OF AN ITEM: (1)Determine the menu item’s Standardized Recipe; (2) Calculate the Direct/Prime Cost of the menu item; (3) The addition of a C-Factor (“cents factor”) to the Direct/Prime Cost of the item (normally between 1% - 6%) to determine the item’s true Direct/Prime Cost; (4) Application of the Cost Percentage Formula to determine the standard/theoretical Selling Price of the item; [Direct/Prime Cost of the item/chosen relevant Cost Percentage]; and (5) Adjustment to calculated Selling Price based upon competitive market forces.

SELLING PRICE DETERMINATION (AN EXAMPLE) (1)STANDARDIZED RECIPE (HOTDOG) (a)Hotdog Bun; (b) Sausage; (c) 11/2 oz Onions; (d) 2 oz Ketchup; (e) 1 oz Mustard; (f) * 1 strip wrapping paper; (g) * 1 Napkin; and (h) * 1 Plastic Bag.

SELLING PRICE DETERMINATION (2) CALCULATE THE DIRECT COST OF THE ITEM (a) Hotdog Bun : $6 (12 buns) …. $6/12 = $0.50 (b) Hotdog Sausages: $8 (12 sausages) …. $8/12 ….. 1 Sausage = $0.66 (c) 1 onion: $0.35 (A.P.= 6 oz) …. (E.P. = 5oz) ….. $0.35/5oz …… $0.07 X 11/2 oz …. =$0.11 (d) Ketchup: $6 (1 pk. = 33 oz) … 1oz = $6/33oz = $0.18 $0.18 X 2 oz = $0.36 (e) Mustard: $9 (1 pk. = 33 oz) … 1oz = $9/33oz = $0.27 $0.27 X 1oz = $0.27 (f) Wrapping Paper: $5 (100 sheets)….. 1 Sheet = $5/100 = $0.05 (g) Napkin: $3 (120 Napkins) Napkin =$0.03 (h) Plastic Bag: $4 (60 Plastic Bags).. 1 Plastic Bag = $4/60 = $0.06 TOTAL DIRECT COST OF MENU ITEM (HOTDOG) = $2.04

SELLING PRICE DETERMINATION (3) THE ADDITION OF THE C-FACTOR Total Direct/Prime Cost of Hotdog = $2.04 Addition of a C-Factor (between 1% - 6%) of Total Direct Cost of menu item: [ $ (3 % of $2.04 = $0.06) ] True Total Direct Cost of Hotdog = $2.10 NB: The C-Factor is a hypothetical cost added to the Direct/Prime Cost of a menu item that takes into account the various un-forseen circumstances that can prevent the sale of a menu item.

SELLING PRICE DETERMINATION (4) APPLICATION OF THE COST PERCENTAGE FORMULA TO DETERMINE THE SELLING PRICE [SELLING PRICE = True Total Direct Cost of menu item/Chosen relevant Cost Percentage] {3 Scenarios} (a)Selling Price = $2.10/20% = $10.50; [here 20 % of $10.50 is $2.10…. Allowing for a Gross Profit of $8.40 or 80%] (b) Selling Price = $2.10/30% = $7.00; [here 30 % of $7.00 is $2.10…. Allowing for a Gross Profit of $4.90 or 70%) and (c) Selling Price = $2.10/40 % = $5.25 [here 40% of $5.25 is $2.10…. Allowing for a Gross Profit of $3.15 or 60%]

SELLING PRICE DETERMINATION (4) THE APPLICATION OF THE COST PERCENTAGE FORMULA WHEN DETERMINING SELLING PRICE (A) Utilizing a Cost Percentage of 20 % resulted in a Selling Price of $10.50; (B) Utilizing a Cost Percentage of 30 % resulted in a Selling Price of $7.00; and (C) Utilizing a Cost Percentage of 40 % resulted in a Selling Price of $5.25 OBSERVATIONS (1) An inverse relationship exists between the Food Cost Percentage chosen and the Selling Price and Gross Profit/Contribution Margin determined; (2) According to the Law of Demand, the higher (lower) the Selling Price, the lower (higher) the Inventory Turnover Rate; (3) In all instances the Food Cost Percentage is no more than 40 %, allowing for a Gross Profit/Contribution Margin of nothing less than 60% of Selling Price;

SELLING PRICE DETERMINATION OBSERVATIONS: (4) The Price Elasticity of Demand is an important variable when adjusting the Food Cost Percentage in the determination of Selling Price. (a) Demand is Elastic (ie very responsive) when the percentage change in Price brings about a greater percentage in Quantities Demanded. Thus by lowering Selling Price, the fall in price is offset by a greater increase in the inventory turnover rate, resulting in an increase in Sales Revenue (and Net Profits, provided all other costs are kept in check); (b) Demand is Inelastic (ie very un-responsive) when the percentage change in Price brings about a smaller percentage in Quantities Demanded. Thus by increasing Selling Price, the increase in price is not offset by the smaller decrease in the inventory turnover rate, resulting in an increase in Sales Revenue (and Net profits, since the firm would be producing less output; and assuming all other costs are kept in check); NB: IT CAN BE ARGUED THAT THE FOOD COST PERCENTAGE CAN BE ALLOWED TO EXCEED THE BENCHMARK OF 40 % (RESULTING IN GROSS PROFITS < 60%) ONLY IF THE INCREASE IN THE INVENTORY TURNOVER RATE GENERATES GREATER NET PROFITS !!! (however, generally a very risky strategy)

SELLING PRICE DETERMINATION (5) ADJUSTMENT TO THE CALCULATED SELLING PRICE BASED UPON MARKET FORCES Although the Cost Percentage Method is a universal tool used in the pricing of menu items, it must ALWAYS be remembered that, in the final analysis, the Selling Price determined must be compared to those of competitors so that final adjustments can be made before placing the final price on the menu. ADJUSTING THE SELLING PRICE When adjusting prices, the following is normally (re)considered:- (1) The Standardized Recipe; (2) Portion Sizes; (3) The Supplier Portfolio; (4) The Target Market chosen; (5) Adjusting the Cost Percentage vis a vis the impact upon the Inventory Turnover Rate and the size of Net Profits; (6) The activities/strategies of Competitors; and (7) Potential contingencies in the External Environment.

SUMMARY THE SELLING PRICE OF A MENU ITEM IS A FUNCTION OF: (1)The Cost of Production (ie the Standardized Recipe); (2) The Supplier Portfolio; (3) The size of the C-Factor chosen (vis a vis the occurance of wastage, spoilage and theft); (4) The size of the chosen (Food/Beverage) Cost Percentage and its impact upon the size of Gross Profit/Contribution Margin; (5) The buying behaviour of the firm’s target market(s) and the Price Elasticity of Demand in the market(s); (6) The Inventory Turnover Rate; (7) The magnitude of Indirect/Overhead Costs for the period; (8) The magnitude of Labour Costs for the period; (9) Forecasted changes in factors in the External Environment (Economic, Political, Legal, Technological, Socio-Cultural forces); and (10) The desired levels of Net Profits to be achieved in a given period (though highly uncertain)