Restaurant Economics 101

Part 2: A Revised Model

As a server paying my way through a degree in economics, I’ve observed many guests compete for the best tables by trying to slip a bill at the host stand. Meanwhile my owners were struggling to make more than 3% margins. What I observed is certainly not a unique phenomenon in an industry that fails to accurately value its coveted real estate.

Framing a meal in terms of what it really is, an experience in a dining room that has finite real estate, is the first step in shifting perceptions and understanding the economic opportunities. Not only could one table be more desirable than another, but certain time frames are more popular, which yet again disrupts supply and demand on a daily basis. To a consumer, this is an important distinction over simply raising food prices across the board, which is not without its own justifiable backlashes.

“Restaurants in North America face two issues: consumers’ skewed perception of food prices and elasticity of demand.”

Simply raising food prices has proven to be a constant recipe for financial disaster, because restaurants in North America face two issues: consumers’ skewed perception of food prices and elasticity of demand, which refers to how sensitive a consumer is to the price of a good. The more elastic a product is the more consumers react to price increases. Restaurants suffer from high elasticity, meaning that consumers will go somewhere else or not at all if they perceive the price is too high. Inversely, products like medication are highly inelastic. Consumers will pay whatever is asked of them.

Why are North American restaurants faced with these issues? Well, North Americans pay the lowest food prices per capita in the world. This was the intended outcome following a very long and well documented history of coordinated government agricultural policies enacted since the 1960s during the green revolution. Despite the benefits of efficiently feeding an entire population through subsidized industrialized farming, inherently it has led to a massive misunderstanding of the real cost of quality food.

Without defining your offering as an experience to a highly price sensitive consumer, the perceived value of your food prices can spiral towards the lowest common denominator. In a competitive market, where each individual business has no control over prices and the products are subject to elasticity of demand, a business’s prices must rise and fall with the market regardless of the costs, which can often lead to a race to the bottom or in the case of a restaurant negative profit regardless of being busy.

“Restaurants should begin to view their dining rooms in terms of differentiated tiers of real estate and frame their offerings as experiences.”

So all of this brings us back to how a restaurant can and should price their dining room. Restaurants should begin to view their dining rooms in terms of differentiated tiers of real estate and frame their offerings as experiences. In a market where 63% of millennials seek experiences over goods and services, restaurants will quickly flip the script on their profitability issues by joining the rest of the economy with modern pricing mechanisms.

This all leads me to my final point: there should not be any stigma directed towards restaurants for wanting to make money! In the final part, let’s take a look at how we can continue to support these important cultural hubs in our communities.

An expert in dining room economics and the guest experience, Frazer Nagy is an entrepreneur and the co-founder of Tablz, a Transparent Kitchen company, committed to a vision of changing the way the story of your dish is communicated and helping restaurants finally become profitable businesses.

Up Next:
Part 3: A Brighter Future