Restaurant Economics 101
Part 1: A Flawed Model
Ever wonder why your favourite restaurant, that was always packed, and where you could never get a table, suddenly closes its doors due to financial reasons? You don’t need to be an economist to understand that something just doesn’t add up.
Every so often, you cross paths with a headline such as: “restaurants are a tough business”, “restaurants operate on tight margins”, or “it’s so hard to turn a profit in this industry.” You get the idea. What piqued my curiosity, was why we haven’t dug deeper than these simple hyperboles?
Why do restaurants struggle so hard to make money!?
First off, running any small businesses is tough; that goes without question. Limited access to capital and reduced economies of scale are clear obstacles, defied at every turn by the desire to put love into your product or service and share it with the world. So it doesn’t matter what you are selling, independent retail in particular is tough.
Additionally, restaurants have a whole host of unique issues to consider, among them having to manage perishable goods, pay exorbitant utility bills, and operate during unusual hours. If you are further interested in the unique life of a chef, my team and I have taken a deeper dive into a number of themes through a project called The Last Service, launching this spring.
Ultimately, restaurants are using a flawed economic model to manage their dining rooms.
Simply put, unlike most businesses, restaurants not only have fixed costs and variable labour costs to consider, but they fail to acknowledge that they are operating with a fixed capacity. Due to this finite physical constraint, there is an upper limit to their revenue.
“Dynamic pricing, a pricing strategy also referred to as surge pricing, demand pricing, or time-based pricing, in which businesses set flexible prices for products or services based on current market demands.”
Now, fixed capacity isn’t a phenomenon exclusive to restaurants. Where it is found elsewhere, you will discover a significant difference: dynamic pricing, a pricing strategy also referred to as surge pricing, demand pricing, or time-based pricing, in which businesses set flexible prices for products or services based on current market demands.
Hotels, concert halls, airlines, and sport arenas all have fixed capacity, but you wouldn’t find yourself paying the same price for first class or court side, as you would for the nosebleeds or the middle seat next to a crying baby on a transcontinental flight.
Put into practice, this means restaurants should be charging for sections, tables, and times based on peak demand, vanity, and pure desirability. When people want something, they will pay for it. Within the restaurant industry, they have simply never been asked to pay for it. You don’t ask, you don’t get. It is a literal ‘free for all’, where competition for the best space at the best time truly carries no value.
“Restaurants should be charging for sections, tables, and times based on peak demand, vanity, and pure desirability.”
So why do restaurants charge the same price for the best table at 7PM on Saturday as they do for the worst table at 5PM on a Monday? It’s a question I have been contemplating for some time, which we will unpack in the next segment.
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 2: A Revised Model
