Contribution Analysis
Terminology:
Contribution Margin: A products selling price minus all variable raw cost associated with producing that product.
Selling Price - Raw Cost = Contribution Margin
Contribution Analysis: The process of evaluating individual product contribution as it relates to Selling Price and Variable Cost of the product.
Variable Cost: Cost that fluctuate due to product purchase cost and usage. This would include raw cost of products and paper cost
As outlined in the Food Cost Percentage section, Food cost in the selling price represents the percentage that the expense of the raw cost makes up in the selling price. It does not represent how much profit is made, though it does directly impact profit. It was also discussed that some menu items may be required to be priced at a higher Food Cost percentage to be considered a fair market value for our guests, while other menu items will bear a lower food cost percentage.
Understanding the difference between Contribution and Food Cost percentage is important. While we strive to achieve a target food cost percentage, it is most often achieved through a mix of menu items priced at different levels of Food Cost percent. Though we may hit our targeted Food Cost percentage, it doesn’t necessarily mean menu prices are priced effectively to return the greatest amount of contribution.
In this section, we will review the correlation between Food Cost percentage and Contribution and how each play an important role in profitability, and why it is so important that both Food Cost and Contribution are carefully measured.
Contribution Margins
The Contribution Analysis is another way to examine the performance of individual menu items to determine if they are at maximum profitability.
Basing your selling price on a desired Food Cost percentage is a great starting point, while the Contribution Analysis is a tool to fine-tune your menu prices to maximize profits.
The menu item contribution or contribution margin is the difference between the selling cost and variable cost to produce a menu item. Your variable costs are the cost it takes to make and serve that product and includes all raw food products used in the dish as well as paper products if the product is packaged as a retail item or served as takeout.
The importance of conducting a contribution analysis is to help us understand the strong and weak points of our menu. Conducting frequent contribution analysis is important in helping to strengthen the profitability of our menus by eliminating or replacing slow-moving items or items that are generating low levels of contribution. Additionally, a contribution analysis will help us to determine if the low contribution of the item is a result of being improperly priced.
item on your menu contributing the least while others with lower sales contributing more.
When reviewing the contribution of the individual menu items, it is important to evaluate not only the individual contribution per item sold but also the total contribution based on the sales volume of that particular menu item.
While the Food Cost percentage of a menu item will directly impact its contribution, the menu items with the lowest Food Cost percentage may not always return the greatest contribution. An item with a higher Food Cost percentage may contribute more than others priced with a lower Food Cost percent. Additionally, it is possible to have the leading selling
Another benefit of contribution analysis is identifying and removing poor-performing menu items. By removing or replacing menu items that are slow-moving or generating lower contribution margins, you can reduce inventory by eliminating unnecessary stock items that are moving slowly. High amounts of slow-moving inventory reduce cash flow opportunities by tying up money having products sitting on the shelf or even worse, causing product loss due to spoilage.
If the product is sitting on the shelf, it still has value though it is reducing cash flow for the operation. Losing products to spoilage reduces profitability.
Reviewing The Numbers
Looking at an example.
You review the number of each item sold on your menu from the previous week and you calculate the contribution for each dish.
You have a 16 oz Grilled Ribeye Steak on your menu and it cost you $19.33 to prepare and sell it for $42.75.
This gives you a contribution of $23.42 for each steak sold.
$42.75 - $19.33 = $23.42 in contribution
For this week, you sold 65 steaks giving you a total of $2,778.75 in revenue and a total contribution of $1,522.30
The pasta dish on your menu sells for $14.95 and costs $3.52 to prepare, giving you a contribution of $11.43 for each dish sold.
$14.95 - $3.52 = $11.42 in contribution
There were 149 pasta dishes sold this week giving you a total revenue of $2,227.55 and a total contribution of 1,703.07.
Looking at this comparison, you can see that even with a smaller contribution, the Pasta Dish contributed more for the week than the Ribeye Steak because of the number sold of each dish. Both items were strong contributors for the week; the Ribeye because of its high contribution and the Pasta Dish because of its volume. Because one product returned a higher contribution, you might think that the other is running too high of a Food Cost and will need to make adjustments.
When reviewing the performance of each item, one might think that the Ribeye would have a Food Cost percentage much lower than the Pasta Dish based on the amount of contribution of each item. A single Ribeye sale generates $12 more in contribution than that of a Pasta Dish though the Food Cost percentage is nearly doubled that of the Pasta Dish.
Pricing your menu on a targeted Food Cost percentage is a good starting point, but doesn’t always provide you with the greatest return on the product. It is the contribution analysis that will give you the real story of how well your menu is performing.
Food Cost vs. Contribution
Food Cost Percentage
Ribeye Steak..................45.22%
Pasta Dish.......................23.55%
Contribution Margin
Ribeye Steak....................$23.42 Pasta Dish.........................$11.42
At first glance, one might think that the Ribeye would be much less profitable simply because of the cost to produce this dish. If you were to price the Ribeye at a 30% Food Cost you would need to sell it for $64.00, making it a difficult dish to sell and you may consider not putting it on the menu.
Additionally, most operators tend to believe that pasta is a high-margin product. It’s inexpensive to make and has high acceptability with the guest. While you can make a good margin on pasta, it is the volume sold that makes it profitable.
If you were to price the Pasta Dish at 30% Food Cost, the menu price would need to drop to $11.75 which would most likely increase your sales of the dish, but greatly reduce your contribution. This price decrease would reduce the contribution per sale to $8.23, a drop of $3.23 in contribution for every dish sold.