Are you one of those restaurateurs who set menu prices purely on guesswork? If you don't use market research data and the relevant calculations to price your menu, you're just guessing the figures — and that's not good for business.
This article explains how to cost a menu in 2023 and beyond, after which you can design any menu for free with Menuzen.
What to Remember When Menu Costing
To maximise profit, charge as much as customers are willing to pay. Suppose you sell a cheeseburger for $10 and see that people are rushing it. In that case, chances are they'll still buy if you increase the price by 50 cents or even more, especially if there's something unique about your cheeseburger or restaurant. You'd leave money on the table by not increasing the price.
Menu engineering is a process where restaurants try to increase profitability by re-evaluating their menu often. Even a perfect menu costing method needs engineering from time to time, particularly due to seasonal changes. You may also increase profitability through menus by eliminating "dogs" (dishes that cause losses or have negligible margins).
It's possible to fix a wrongly priced menu through several menu engineering rounds, but getting your original pricing right will increase profitability and prevent menu-induced losses. A menu with the right prices gives you a powerful seat at the competitive table, provided your food and services are great.
What to Consider Before You Start Setting Items Prices
There are some preliminary steps to deciding menu prices and applying menu pricing strategies. These steps largely determine whether you'll get the costing right or wrong. Neglecting one can lead to overcharging or under-pricing your dishes, which are financial drawbacks.
These steps are:
- Competitive analysis
- Decide product quality
- Choose a costing model
1. Analysing your competition and market.
The first step on how to cost a menu is to study customer behaviour and how much other restaurants are charging for the dishes you intend to offer. You should study their menus and determine the ingredients they used to produce those items. Usually, this information is available on their social media or website.
If you can produce a superior dish using the same or more ingredients, you can convince customers to pay more. In fact, you can offer the same food quality but with a better dining experience and get away with charging much higher than your competitors. But to succeed at this strategy, you must figure out how much your customers are willing to pay for that dish.
2. Understanding what the market can afford.
Your target market is the people who'll buy your food, and prices must fall within a tolerable range for customers. For example, don't price your burgers like you're a luxury hotel when your main customers are students. Sometimes, a customer survey is necessary to determine the maximum price customers can afford for a particular type of food, which helps with costing a menu.
Knowing what your potential customers can afford is not compulsory before setting prices. For example, people will likely tolerate high prices if you operate in a fancy environment such as a 5-star luxury hotel. But when you run a street food restaurant, buyers of your expensive dishes are likely to be few.
You can still set the prices of a street food restaurant's menu without researching the market's potential. The chances of selling those dishes and increasing your restaurant sales overall would still be good, provided you understand and please customers.
3. Choosing a menu costing model.
There are two pricing models for restaurant menus.
These include:
- Cost Plus Pricing Model
- Market Minus Pricing Model
This is the model most restaurants lean towards, but not because it's better, just because it's easier to use. In learning how to cost a menu using the cost plus model, you'd find all reliable sources telling you to add up the total cost of all ingredients to be used in that dish and the serving size.
The advantage of the cost-plus model:
The advantage of this pricing method is that it allows you to be as creative as you wish in preparing your dish. You can add any ingredients or toppings you wish without worrying about any predetermined upper limit for expenditure. However, you'll be summing up the costs of these ingredients as you make the dish, so don't make it too complicated!
After you're done, the next step is to decide how much to add to the total cost as your gain. Let's say your burger costs $3 to make in ingredients. You can decide to charge $8 for a burger and probably net a $3 profit after accounting for other expenses, such as food wasted, utility bills, etc.
The disadvantage of the cost-plus model:
The biggest drawback of this pricing model is that you may add way too many ingredients since there isn't any budgetary constraint on your creativity. The result can be a costly item that you can't make any profits from, no matter how you price it.
Here's a reflective menu costing example:
Let's assume a burger costs you $12 to produce because of the variety of ingredients used. Also, let's assume your target customers are mainly students who may not want to spend up to $18 on a burger.
If you set the price at $14, you won't likely make any gains after subtracting other costs like labour, tax, etc. Yet, demanding $18 for it may be unrealistic. In this case, that dish becomes a "dog."
This pricing model entails researching the market (customers) to know what it can afford to spend on the dishes you want to offer. The model ensures your dishes aren't too expensive to make or sell, enabling competitive pricing of your menu. In addition, because you'll know the highest amounts the dishes are worth on the market, you won't demand any unrealistic amounts from customers.
The most significant advantage of this model is that it won't allow you to use just anything you feel like in making the dishes. You already know the selling price before even creating the offer. Hence, you'll pay attention to the money the dish costs you as you make it.
Another advantage is that your prices will likely gain market acceptance.
However, its disadvantage is the difficulty of determining the maximum amount customers can pay. Although you can always get this information via a customer survey, it isn't as easy to obtain and analyse as summing up expenses.
A second drawback is that you won't be as creative with your dishes as you wish, which can affect the food quality and put you at a disadvantage in the competition.
Some Pitfalls to Avoid When Costing Your Restaurant Menu
Many so-called expert TV shows and articles claim to teach restaurateurs how to earn three times the markup on their menu items. Thus, these so-called experts claim their formula will help you to charge customers thrice the cost of making each dish. That's to say, if it costs $5 to make your hamburger, they'll show you how to cost the menu item for $15 and still make a lot of sales.
In most cases, it doesn't work that way. This is because each class of customers has spending limits for specific foods regardless of how well you prepared them. This is true even if you offer them a unique experience, unlike any other restaurant.
Another major pitfall that traps many restaurants is the temptation to undercut every restaurant. If most (or all) restaurants around you charge $12 for a burger, you shouldn't just charge less.
Some restaurateurs price their dishes way cheaper than anyone else's to attract more customers. They believe minimal profits from many sales are better than average profits from fewer sales. These assumptions often prove to be wrong in the long run.
You can still charge higher than competitors.
For every kind of food, you'd find two or more restaurants charging differently. For example, one may charge only $3 for a burger, and another could charge over $20. Yet, the restaurant or hotel charging $20+ might sell more burgers than their counterpart.
So, how do restaurants price their food higher but sell more? The answer lies in strategy.
That begs the question: does it truly help to have three times more customers than your competitor but earn less profit? We'd say it doesn't.
Profit was probably your main reason for starting a restaurant business, or at least one of the main reasons. The experience of customers at your food joint also matters.
Factor in All Costs in Your Pricing
There are three main costs to be aware of when pricing your menu.
These include:
- Food cost
- Labour cost
- Rental cost
These constitute the bulk of your expenses. Improper cost management keeps you working for your business instead of the business working for you (making you money). Think about it; the restaurant eats up much of your revenue, leaving you with a relatively thin slice of the pie.
These expenses are massive and consume about 60–70% of your revenue. This is why margins in the food and beverages industry are so thin. If you ignore your operating costs, no pricing strategy can give you the most out of a restaurant.
Food cost consumes revenue the most.
In most cases, inventory costs absorb the most expenditure of restaurants. However, it's also the easiest cost to control. This means you can increase profits significantly if you manage to control how much you spend on food items and ingredients.
Although this article discusses how to cost a menu as a means of developing an effective menu, it's mandatory to know how to calculate food prices because this will decide how your menu is priced. Without proper food cost calculations, you'll lose money or over-price certain dishes.
Imagine charging $20 for a dish that costs $15 to prepare. This is why you ought to determine the exact cost of producing each type of dish before setting its price. Unless you're using this zero-profit dish as a magnet for customers or to help sell other items, leaving them on your menu isn't advised.
Why focus on food costs?
You might wonder why we're emphasising food cost calculation when this article is about menu pricing. However, if you take some time to ponder on the relationship between your menu and your restaurant's shopping list, you'll find the reason quite obvious.
Since these costs demolish revenue the most, they're the main factors that decide whether you stay in business.
To help you avoid bankrupting your restaurant, you must:
- know how to account for these costs,
- learn how to control them, and
- take steps to minimise them.
How do you determine operating costs?
Every penny you spend on your restaurant is part of the overall operational cost. Even the transport fare for workers and shipping costs should be accounted for. This calls for accurate record-keeping.
Some of these costs aren't easily controllable. For example, the landlord decides how much you pay for rent. Your workers are paid based on a fixed hourly, weekly, or monthly rate, which you can't reduce easily. The same thing applies to taxes.
In light of the percentage of revenue absorbed by these costs, imagine how much profit can be made if you manage to control even one of these huge costs. You can manipulate the expenses and increase overall profit by up to 5% of revenue or more. However, you must know how to cost a menu to take advantage of any changes in your expenses.
If you didn't follow this process in costing your present menu, there are likely items on your menu that only contribute to costs without generating much profit. Again, unless such items serve a different purpose, such as attracting or retaining customers, it would be better to strike them off.
Launching a new product.
What if you want to make a unique dish that few or no restaurants sell within your target market? In this case, analysing competitor prices won't help you decide on this special dish's price.
However, you can still analyse the prices of similar dishes to get some idea of how to price your food menu items since customers can use such alternatives if they deem yours too expensive. In other words, you must know in advance whether the market can afford your special hamburger before you launch it.
This doesn't mean you should just proceed to calculate the food cost of that hamburger and slap a price on it. People may find it too expensive despite being unique. So, it's important to first figure out how much your target customers may be willing to pay.
If you intend to sell this burger in a 5-star luxury hotel, it'll be easier to charge five times the prices of hamburgers in the streets. This is because the guests in a luxury hotel are less likely to be mindful of the price, especially if the food and experience are truly memorable.
What to do before you create and cost a special dish.
Suppose you want to create a special kind of hamburger that will blow the competitors out of the water. In that case, your first step is determining the maximum amount people are willing to pay for a hamburger.
Start with your current customers because they're the first people you'll advertise it to. Discussing the matter with your staff to hear their opinions is also an important step in how to price food menu items.
Afterwards, design a survey to collect several pieces of information, including the highest price your respondent can pay for a hamburger, no matter how specially made. Specify a range of prices for the question and go with the most popular price — don't just randomly accept the opinion of an employee or employees.
Use this maximum price to determine the highest amount you should invest in that hamburger. For example, suppose most of your customers say they won't pay higher than $20 for a hamburger. In that case, the cost of producing that hamburger shouldn't exceed, say, $10 if you want a $5 profit after accounting for all expenses.
The $10 upper limit will guide your decision on the types and quantities of ingredients to use for that burger.
Do You Intend to Offer Promotions?
On which dishes would you like to offer promotions?
Don't forget to include any discounts or promotions in the cost calculus.
Let's say you're really determined that customers taste the special hamburger above. You're confident they'll be hooked on the very first trial and will continue to buy afterwards, regardless of any promotions or discounts. In this case, promotions are an effective menu costing strategy.
One powerful incentive model can be a free gift on certain purchase amounts. This can be a free ice cream when you buy a hamburger. Or buy two, get one free, etc.
The items you're giving away for free should feature in your cost calculus, even if they differ from the target dishes. The reason is that customers may reduce their portions or even stop buying altogether if you decide to discontinue the promotion.
Promotions can be a double-edged sword.
A failed promotional campaign can obliterate your target dish from the menu and even frustrate some regular customers. That's one big issue with promotions.
People like freebies and will quickly get used to any great offers your restaurant presents to them. Customers prefer that your freebies continue indefinitely and will be disappointed to sit at the table one day and discover those offers have disappeared from the menu.
So, it would be best if you prepared for the possibility that the sale of some dishes may depend on indefinite promotions. If you had covered the cost of promotions in your pricing, you wouldn't face a serious problem sustaining any discounted offerings for a long time. At the same time, you've averted the risk of disappointing or annoying customers strongly attached to your promotions.
Use Pricing Psychology as Much as Possible
What's pricing psychology?
More importantly, how do you cost a menu psychologically?
Pricing psychology uses certain strategies to manipulate a customer's perception of value. These strategies make your dishes seem cheap or at least less expensive than they really are. The idea is to relax your customers and make them feel they've received a great bargain on their ordered dish.
In our previous guide on how to design a restaurant menu, we discussed menu psychology to some length. Vendors use over a dozen tactics on people's minds to make them buy the vendor's product. You ought to master and implement some of these manipulative tools in learning how to cost a menu.
Ethical weaknesses of menu psychology.
There are some ethical reservations about menu psychology because many people, especially consumers, consider it unfair to the customer. Frankly speaking, some of these manipulative tactics aren't straightforward and can be considered deceptive or almost so.
For example, dramatically reducing an item's price and increasing its shipping cost significantly to compensate for the difference isn't a clean business practice. This trick is common on eBay, Amazon, and other online marketplaces, to the extent that eBay cautions buyers to always look at shipping fees before paying for an item.
These sellers are betting you won't look at the shipping fee or take a few seconds to calculate the total cost. Hence, many people regret purchasing a product after seeing the total amount charged for it. But this isn't what we advise you to do to customers at your restaurant.
The pricing tactics to adopt
We can't overemphasise the need to lean towards menu design tips and suggestions.
To increase the chances of people agreeing with your prices and thus buying your best dishes, ensure to use most or all the concepts below:
- Z-pattern arrangement of top dishes.
- Use an anchoring effect on your best dishes.
- Eliminate all currency symbols.
- Use font, verbiage, and design tactfully.
Z-pattern arrangement of top dishes.
When customers study your menu, their eyeballs typically follow a Z-like trajectory, starting from the top left to the top right, then down to the bottom left, and finally to the bottom right. You want to place your most profitable dishes along this trajectory. This isn't a bad or unethical tactic of costing a menu — you're only giving certain dishes more exposure than others because you want to sell more of those.
Actually, the top right space is the most valuable real estate on your menu — this is where your best dish should go. Some people believe that the best spot on a menu is the top left space, but this doesn't seem right because people's gaze doesn't linger for long here. Rather, they spend more time looking at the items around the top right spot.
Use the anchoring effect on your best dishes.
Have you ever looked at a list of item prices by a particular seller and noticed some of the offers seem like great deals compared to others on the same list? Chances are that the seller manipulated you.
The anchoring effect is meant to shock you with a ridiculously high price and then calm your mind by immediately presenting an alternative that's really cheap by comparison. It's usually designed so you'd first see the expensive item before the seemingly cheap alternative.
You were already thinking, "this is way too expensive," only to be greeted by a cheaper option in a split second. Your first thought would be, "this is much better!" — exactly what the restaurant wants you to think of that item because that's the dish it wants to push.
By first scaring you with an overly expensive offer, the restaurateur has managed to manipulate your perception of value.
How to implement the anchoring effect:
This is one of the things you need to do when setting menu prices. You can learn more on how to cost a menu with many psychological backups that will help to make it convincing to customers. Set your best dishes along the Z-axis and precede them with expensive dishes that serve as anchors.
On those dishes you're trying to sell in high volumes, you can offer 30–50% off. A menu costing example could be to price $100 for a dish/set menu you want to charge $70, then offer 30% off. If the preceding dish costs $200 and the customer sees that your hero dish goes for $100 with 30% off, they'll likely see this as a great offer.
Alternatively, you could charge $80 for your hero dish and pair it with a $10 free offer, such as a cheeseburger. An $80 meal sitting next to a $200 dish will be tempting, especially if paired with a free item. So, by charging $80 and giving away $10, you still achieve your target of $70 for that dish.
Of course, not many restaurants can charge such high prices for a dish! Those numbers were to emphasise the example.
Eliminate all currency symbols.
Currency symbols have little use in pricing a menu. You won't gain anything from using them except to make customers less willing to spend or if you're reducing confusion in a tourist area.
These symbols are a powerful reminder to customers that they're about to part with their money. The sad truth is that only a few people want to part with their money without a necessity.
Reminding them that money is about to leave their purses means they'll be more critical of the prices and less willing to spend more. On the other hand, excluding those currency symbols makes your customers feel relaxed and open to spending the highest they can typically afford.
Use font, verbiage, and design features.
Anchoring effects aren't the only way to draw attention to your high-margin menu items. You can use fonts, verbiage, sketches, and other design features to make certain menu items stand out.
For example, bolding the text of an item's name can make it stand out. Similarly, smart verbiage, images, sketches and other design tools are used when pricing a menu to promote certain dishes.
What Follows Menu Costing?
Be advised that pricing your menu isn't a one-time job. You need to adjust it later as you receive new sales data.
It would be best if you modified menu prices after calculating the following parameters using your sales data:
- Food cost percentage
- Food cost percentage per dish
- The ideal food cost percentage
- The actual food cost percentage
- Total food sales
Frequently Asked Questions
What are the three ways of pricing menu items?
There are two ways to price your menu items. You can either use the cost-plus pricing model or the market-minus pricing model. Some people say there's a third one, but we disagree because that model relies on guesswork.
How do you price and cost a restaurant menu?
You can price a menu item by using any of the two pricing models explained in this article: the cost-plus pricing model or the market-minus pricing model. Furthermore, you can calculate the cost of each item by determining how much money went into making a dish.
What's an example of a cost?
We mentioned three types of costs you need to beware of: food, labour, and rental cost. However, all restaurant costs can be classified into two broad categories: fixed cost and variable cost.
Fixed costs include rental expenses, taxes, labour costs, etc. On the other hand, variable costs include food costs, utility bills, entertainment, etc. You can easily control variable costs but not fixed costs.
What's a good profit margin on food?
Anything from 3% to 15% is considered a good profit margin because margins are really thin in the food and beverages industry. The higher your sales, the more profit you make. Depending on your menu prices and how many servings you sell, even a lower than 3% margin may be good.
Average restaurant profit margins vary, but it's best to always work your restaurant menu prices in a way where you can grow your business according to your goals.
Conclusion
Now that you know how to cost a menu, you're more likely to set realistic prices that drive sales and bring in lots of profits. Just remember to re-evaluate your menu after obtaining sufficient sales data.
Use the cost calculation concepts listed above to better understand your restaurant's performance. After determining the prices of your menu items, it's time to design your free digital menu with Menuzen and pair good prices with a great menu design. Get started with Menuzen today to get started.
