Understanding Food Cost and How to Budget

What is Food Cost?

Food cost is the ratio of food inventory costs and revenue produced from menu items sold. Food cost is also generally referred to as food cost percentage within the food industry, the terms are often used interchangeably.

To calculate food cost percentage you divide inventory costs by the revenue produced. Frequently calculating food cost with the above food cost formula is a best practice technique that all food industry businesses should undertake.

Comparing the cost of raw materials to revenue produced is a great way to analyze if a food industry business is sustainable long term. Additionally, food cost percentages are helpful to reference when you are considering making changes to menu item portion sizes or menu prices at your restaurant.

When determining appropriate food costs it is necessary to consider both the affordability of menu items for customers as well as the revenue for your business. Food sales must consistently generate profit for a restaurant in order for it to stay in business.

On the other hand, if the menu items cost too much then customers are unlikely to continue to dine at your restaurant or even dine there in the first place. Customers want to frequent restaurants that provide great quality food for a fair price.

Actual food cost and ideal food cost are two concepts that food industry professionals should understand. The ideal food cost is defined as the optimal profit that food sales could generate. An ideal food cost does not estimate waste, portion size differences, or a decrease in sales for a particular menu item.

Actual food cost is the real cost that factors in waste, portion sizes, and sales as they occurred. Discrepancies between the actual food cost and ideal food cost can reveal where there is room for improvement and food cost control measures.

Why is Food Cost Management Important?

With an average of 20-40% of revenue spent on food products, a restaurant needs a great food cost management system. The above percentage does not even take into consideration other substantial operational expenses including labor costs, rent, and utilities.

Food industry businesses must understand how much money they are spending on food in order to accurately and competitively price menu items. Increased food costs can signify that your business may need to find a new supplier for certain products, or negotiate current prices.

Benefits of food cost management include-

1. Competitiveness- Many restaurants wisely use industry benchmarks to better understand their food cost percentage in relation to other restaurants. Industry benchmarks allow business owners to make adjustments to their food costs in order to be more competitive.

In such a high-stress and high-demand industry, keeping competitive is essential for long term business success. Keeping your customers happy is great, but if you are not generating a profit then your business model is not sustainable.

2. Decision-making- It is a misconception that the more menu items a restaurant has the more total food sales it will have. Slimming down menu items according to how much revenue they generate is a great way to decrease food costs for your business and increase bottom line profitability.

If a certain menu item is not at the food cost percentage a restaurant owner desires it to be there are a few options to consider. One option is to increase the menu pricing so the food cost per serving is closer to the food cost percentage desirable.

Alternatively, if portion sizes are decreased the food cost percentage can be optimized. If food costs for a specific menu item are consistently unsatisfactory even with adjustments, it may be necessary to find another supplier for ingredients.

The last option to consider is for the item to be taken off the menu completely. This can be tough for a restaurant owner to do, especially if they feel strongly about the menu item.

Food cost management is a great way to separate emotional attachment with actual data. With the proper food cost management techniques in place, your business is much more likely to succeed.

How to Control Food Cost in a Restaurant?

Over the past five years, the cost of food has increased by over 25%. Food cost control is crucial to business success and longevity. Tips for controlling food cost at your business include-


1. Avoid waste- With many ingredients being perishable, a lot of your beginning inventory may end up wasted if food ingredients are not properly planned for or utilized. Menu items that use similar ingredients can help avoid costly and unnecessary food waste.

2. Monitor variances- Look for variances between the ideal food cost and actual food cost of a product. Variances can indicate a range of issues early on, from operational problems to employee theft.

3. Reimagine menus- Calculating food costs will indicate which menu items bring in the most revenue for your business. After using the food cost formula to understand which items perform best on the menu, consider up pricing popular menu items appropriately.

4. Delegate free meals- Free employee meals are a perk that many restaurants use to keep employees motivated and feel like a part of the team. Instead of cutting employee free or discounted meals, find a healthy balance that works for both employees and your business bottom line.

For example, you may limit discounted or free meals to a specific total cost or offer decreased portion sizes for employees. Remember that the value of boosting the employee experience may well be worth the food cost per employee in the long run.

5. Stop theft- Discounting or comping meals and beverages for friends and family may not immediately come to mind when you think of employee theft. However, these expenses can add up and eat away at your restaurant's revenue over time.

Studies show that 4 out of 10 manager codes are inappropriately used which means that even your most trusted employees, your managers, may be hurting cost control initiatives whether or not they mean to.

To avoid this, create clear standards with all employees about appropriate comping and discounting policies for friends and family. Additionally, let your employees and managers know that you will be routinely monitoring how codes are used.

6. Inventory management- Analyze the beginning inventory and ending inventory to better understand food costs and develop cost control techniques for your restaurant. The beginning inventory and ending inventory should be as close as possible to each other in terms of dollar cost.

Regularly switch inventory responsibilities between employees to make sure that multiple employees understand your inventory process. Employees should also be well trained in and maintain the first in, first out system as a companywide food cost control initiative.

What is Food Cost Percentage?

52% of food industry professionals believe food costs are a top challenge. When you calculate food cost percentage it provides the opportunity to improve business operations and make updates to your menu. Various ways to do so include-

1. Decrease portion size- Portion sizes at restaurants are often hefty, resulting in people taking food home with them. Large portion sizes can justify higher menu prices but if your portion sizes are not helping reach an ideal food cost percentage it may be time to slim them down.

2. Increase menu prices- Instead of decreasing portion sizes, you can alternatively increase menu prices to solve a cost formula issue. It is wise to gradually increase a menu item price and avoid drastic price changes whenever possible.

However, if you do decrease the menu price for a specific item it is important to make sure the item is still selling. If a menu item does not sell well with the menu price change it may be time to take the item off your menu.

3. Locate new vendors- If you have colleagues in the food industry ask about the vendors they use. Alternatively, you can do independent research to see where you could decrease your cost per serving by spending less on food ingredients.

Before switching vendors, you can also inquire if there is room for negotiation with your current vendor. Perhaps a vendor will meet the prices of competitors or offer you discounts to keep you as a customer.

How to Budget for Food Costs

80% of restaurants go out of business within the first five years of operation and 60% do not even stay open past the first year. Setting a realistic budget for your restaurant should be a top priority if you plan to make it past your first few years in business.

A profit and loss budget analyzes the 4 main checkpoints that restaurants should be monitoring- sales, prime cost, controllable income, and net income. Comparing the sales made with prior sales periods and your forecast will help decrease food costs.

Prime cost includes both the cost of all sales and all payroll costs and should not exceed 65% of total sales. The ideal prime cost range is 60-65% of sales.

Controllable income, also known as operating income represents the expenses associated with operations that staff influences. Controllable income is a great indicator of how effectively your staff members are performing.

Net income should ideally be in the positive number range, indicating that your business is making money instead of losing it. Compare your net income with your investments in the business to understand your return on investment rate.

How to Set Up a Menu Based on Food Cost

Developing a successful menu requires a lot of thought and consideration. You want to offer your customers diverse and innovative food items but you do not want food costs to be so extravagant that you cannot keep your doors open.

It is crucial to consider the labor and product costs that are included with each menu item respectively. From the labor standpoint, if a menu item is not prepared consistently and effectively it will likely not be popular. Additionally, if a menu item requires too much labor it could negatively affect the food cost per serving.

If a menu item requires a new ingredient make sure ahead of time that the ingredient will be available. Ingredients that have fluctuated product costs or are only available seasonally should be added cautiously and consciously.

Do not analyze food costs only when you are developing a menu. Due to fluctuations in food product pricing, it is important to calculate food cost percentage regularly.

A best practice for food cost control is to use similar ingredients across your menu items in order to keep your food cost down and total sales as high as possible. Additionally, your beginning inventory and ending inventory are more likely to even out if food items are used most efficiently.

Conclusion

• To calculate food cost also known as food cost percentage requires analyzing both food inventory costs as well as revenue produced from menu items sold. An average of 20-40% of revenue is spent on food costs.
• Actual food cost factors in a range of considerations including varying portion sizes and theft while ideal food cost does not.
• Food costs have risen over 25% over the past five years, there are many ways to manage food costs ranging from avoiding waste to inventory management.
• Decreasing portion size, increasing menu prices, and locating new vendors can help keep food costs low.
• Budgeting should consider sales, prime cost, controllable income, and net income.
• Food costs should be a top consideration when creating or updating your menu.