There are several methods a restaurant can determine the selling price of an item. This article goes over some commonly used methods, such as the factor pricing method, prime cost method, and actual cost method.
Factor Pricing Method
Factor pricing method is also known as the markup method. The variables needed to determine the selling price of an item include the raw food cost and the percentage of food cost.
The facility will make the determination on what their percentage of food cost will be. For this example, we’ll choose a 40% food cost.
The first step in finding the selling price of the item is to calculate the pricing factor. This is accomplished by dividing the percentage of food cost into 100:
100 / 40 food cost percent = 2.5 pricing factor
Next, this pricing factor will be multiplied by the raw food cost of the item. Let’s say the item’s raw food cost is $3.00.
$3.00 raw food cost X 2.5 pricing factor = $7.50 selling price of the item.
Factor Pricing Method – Shortcut
There is actually a simpler way to calculate the selling price of an item, which takes out the step of having to first find the pricing factor. Using the same variables of the raw food cost and the percentage of food cost, we can just divide the food cost percent (as a percent) into the raw food cost:
$3.00 raw food cost / 0.40 (40% food cost percent written as a decimal) = $7.50 selling price of the item.
Prime Cost Method
The prime cost consists of the raw food cost plus the direct labor cost of those employees involved in the preparation of the item. This cost does not include costs such as service, sanitation, or administrative. This method is a bit more complex and may not be appropriate for cycle menus or menus with many choices. Each menu item would need to have a calculated direct labor cost and raw food cost. This can be made more practical by assigning a percentage to the raw food costs and labor costs in general.
For example, the manager determines that for every $2.00 spent on raw food, 9 cents are spent for direct labor. This makes the prime cost total to be $2.09. She then decides that 40% of the selling price of an item would be for the raw food cost and 8% would be for direct labor. This would leave a margin of 52%. The operating margin of 52% would be divided into 100 to find the prime cost factor:
100 / 52 = 1.923 factor
The prime cost will now be multiplied by this factor to give the selling price:
$2.09 raw food cost and direct labor cost X 1.923 prime cost factor = $4.019, or about $4.02 selling price.
As you can see, the calculations are pretty similar to the factor pricing method above. There are just a few extra steps to take in order to get to this result.
Actual Cost Method
The actual cost method of calculating the selling price of an item may be used in facilities who keep accurate cost records. This method takes into account several variables, including food costs from standardized recipes, labor costs, other variable costs, fixed costs, and profit. The food costs and labor costs are the main variable costs to include. The other variable costs, fixed costs and profit data can be obtained as a percentage of sales from the profit/loss statement. The formula for the actual cost method is:
selling price = actual food cost + actual labor cost + other variable costs + fixed costs + profit
This method is advantageous because it accounts for all costs associated with the production of the food and also factors in the desired profit for the menu item.
Companies may use pricing psychology to determine what to charge for an item, which may entice customers to make a purchase. There is thought that certain aspects of pricing affect the customer’s perception, which may have an influence on their purchasing decision. Examples of this psychology include odd-cents pricing, cost by the ounce, a la carte, and table d’hote.
Odd cents pricing creates the illusion of a bargain with the price ending in an odd number. The following are examples:
- Price ends in an odd number, such as $3.75
- Price ends in a number other than zero, such as $5.77
- Price is just below zero, such as $4.99.
With pricing by the ounce, the customer weighs their own portion, giving them a sense of control. This pricing structure is commonly used in salad bars and other create-your-own bars.
The a la carte menu has items priced separately and allows customers to choose items they want, again giving a sense of control.
Table d’hote offers items grouped together and marked at a fixed price. An example of this could be a soup and sandwich special.