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Why You Need Restaurant Contribution Margins to Increase Profits

Ryan Andrews
Ryan Andrews

Sep 13, 2018 9:41:51 AM

How do you work out your menu prices? Do you know which items are pulling in their weight on your menu? Have you implemented menu engineering practices at your restaurant?

These are all questions you should be asking as a restaurant operator looking to guarantee your restaurant is as profitable as possible.

If your pricing strategy is simply aiming to push food costs at 30% of what you charge your customers, you could be damaging your profit margin or not pricing competitively.

If you’d like to stay ahead of food trends to predict what will sell and when it’s time for a change, looking at your sales data can provide you with a goldmine of useful information to run insightful calculations with.

One of the metrics you ought to know about is contribution margin. This little formula can help ensure your restaurant stays profitable by helping you to scrutinize the performance of your restaurant menu.

How to work out contribution margin of a menu item

Many restaurants build their menu prices by trying to push the food cost percentage of an item to run at the industry standard of 30% or lower. While this means that the cost of running the restaurant and serving customers is covered in the price, it doesn’t necessarily equate to reasonable or appealing prices for your customers. Nor does it push the profitability of the best and worst performing plates.

So, what’s the alternative?

An item’s contribution margin is more effective than food cost percentage in calculating the profitability of each individual dish. In addition, finding your overall menu contribution margin can give you an idea of how your menu is performing and give a metric to measure performance of individual dishes against.

To work out the contribution margin of a dish you factor in how often it sells not just the cost of food per portion. Why? This helps you to work out the net number of dollars each dish puts in the register. A dish with a higher food cost percentage has the potential to contribute more profits if it outsells those of an item with lower food cost percentage.

Let’s take a look at the cost of a bowl of ice cream to see how this works…

Food Cost Percentage vs. Contribution Margin

  1. Food cost percentage = food cost / total sales 
  2. Food cost percentage of a bowl of ice cream = cost of all the ingredients / Ice cream sale price
  3. $0.92 (food cost) / $4.95 (sale price) = 18.5% food cost

Now let’s look a look at a wider menu, and see how dishes with lower food percentage costs aren’t always the biggest earners.  

Restaurant Contribution Margin Excel Sheet

In this example, the chicken dish sells for $17.95 and has an impressive food cost percentage of just 26.63%. In contrast, the steak sells for $44.95 and has a food cost percentage of over the ‘standard’ at 35.6%. But, for every chicken sold $13.17 goes in the register. In contrast, every steak gets you $28.95, that’s almost $15 more per customer.

So, while the chicken has a great food cost percentage, the steak with its higher food cost still makes you more for each sale and as such, is a dish you’re likely going to want to push.

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Applying contribution margin data to make decisions

Now you know how to calculate contribution margin, it’s time to think how you can use this metric to fine-tune your restaurant’s menu both in terms of prices and offerings. By regularly calculating the contribution margins for items on your menu, you can see at a glance which dishes are performing well and not just in terms of sales.

When it’s time to ditch a dish

If you were planning a menu refresh, an item with low sales and low contribution margins would be an obvious dish to ditch or consider overhauling. Not only is it not selling but when it does, it doesn’t bring in much when it does.

Monitoring food trends

By looking at the declining contribution margins of a particular item over a period of a few months it’s often enough to recognize the end of a food trend. Are customers going off that pork special or has it become more expensive to make?

Similarly, if something starts suddenly climbing because it’s selling more you may find you have a new favorite on your hands and want to consider adding other similar dishes to your menu.

Finding items to push

Identifying a dish with a good margin that isn’t selling particularly well can give you the opportunity to give the dish a helping hand. You could do this by offering the dish as part of a special with a cost-effective side, allowing it to benefit from the exclusivity of a limited offer.

Alternatively, lowering the price a little may help to drive sales so that it becomes one of your better performers. You could also consider putting menu layout psychology into practice by placing the item underneath a higher cost dish on your menu. This can help it to seem like a better value choice. You could also think about drawing attention to the dish with an illustration, framing it with an outline or using bold text.

Menu Engineering

With proper menu engineering practices implemented at your restaurant, you can increase your restaurant's profit up to 20% with one simple menu redesign. Using contribution margins while menu engineering is a sure fire way to maximize profit per customer at your restaurant.

The Complete Guide to Menu EngineeringGet the complete guide, including menu  engineering Excel sheets.Download Now

The case for regular contribution margin analysis

If you’re in the process of setting up a restaurant, you can inform your initial menu prices by applying contribution margin mathematics. By identifying overall food and non-food costs along with predicted number of customers, you can calculate a contribution margin percentage based on your monthly profit target. This can give you a steer on setting initial menu prices. If a cost for a particular item seems too high or low, it may be that you need to slightly tweak it by lowering food costs or revising customer or profit targets.  

One you’re up and running, you can carry out menu analysis to tweak your menu and prices further. By calculating the average contribution margin for your whole menu along with that of individual items, you can use the techniques outlined above to improve your average menu contribution margin.

This may mean that after several rounds of analysis that you’re unable to find elements for improvement. However, with changing seasonal availability, food trends, or rises in non-food costs such as labor, it’s always useful to be able to come back to this formula when you’re formulating a new menu or changes are required.

What’s your menu costing strategy? If you’re already using the sales information stored within your POS or booking system to help predict staff and stock requirements but you’ve not quite drilled down to this level yet, why not give it a go? You may be surprised at the insights you unravel! 

Free Contribution Margin Excel Sheet Take control of your restaurant's profitability Download Now

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