Financial Analysis and Profit Planning

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This article shows you how to analyze your menu so you can identify which individual menu items make
the most contribution to your profits. In addition, it teaches you how to determine the sales dollars and volume
levels you must achieve to break even and to generate a profit in your operation. Finally, the article
shows you how to establish an operating budget and presents techniques you can use to monitor your effectiveness
in staying within that budget.
* Financial Analysis and Profit Planning
* Menu Analysis
* Cost/Volume/Profit Analysis
* The Budget
* Developing the Budget
* Monitoring the Budget
* Technology Tools
* Apply What You Have Learned
* Key Terms and Concepts
* Test Your Skills

FINANCIAL ANALYSIS AND PROFIT PLANNING
In addition to analyzing the P&L statement, you should also undertake a thorough
study of three areas that will assist you in planning for profit. These three areas of
analysis are:
1. Menu analysis
2. Cost/volume/profit (CVP) analysis
3. Budgeting
Whereas menu analysis concerns itself with the profitability of the menu items
you sell, CVP analysis deals with the sales dollars and volume required by your
foodservice unit to avoid an operating loss and to make a profit. The process of
budgeting allows you to plan your next year’s operating results by projecting sales,
expenses, and profits to develop a budgeted P&L statement.
Many foodservice operators practice the activity of “hoping for profit” instead
of “planning for profit.” Although hoping is an admirable pursuit when playing
the lottery, it does little good when managing a foodservice operation. Smart managers
know that planning is the key to ensuring that owners achieve the profit goals
that will keep them in business.

MENU ANALYSIS
A large number of methods have been proposed as being the best way to analyze
the profitability of a menu and its pricing structure. The one you choose to use,
however, should simply seek to answer the question: “How does the sale of this
menu item contribute to the overall success of my operation?” It is unfortunate, in
many ways, that the discussion of menu analysis typically leads one to elaborate
mathematical formulas and computations. This is, of course, just one component
of the analysis of a menu. It is not, however, nor should it ever be, the only component
to contemplate.
Consider the case of Danny, who operates a successful family restaurant, called
The Mark Twain, in rural Tennessee. The restaurant has been in his family for three
generations. One item on the menu is mustard greens with scrambled eggs. It does
not sell often, but both mustard greens and eggs are ingredients in other, more popular
items.

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Why does Danny keep the item in a prominent spot on the menu? Theanswer is simple and has little to do with finance. The menu item was Danny’sgrandfather’s favorite. As a thank-you to his grandfather, who started the businessand inspired Danny to become service and guest oriented, the menu item survivesevery menu reprint.Menu analysis, then, is about more than just numbers. It involves marketing,sociology, psychology, and a good deal of emotion. Remember that guests respondnot to weighty financial analyses, but rather to menu copy, the description of themenu items, the placement of items on the physical menu, their price, and their currentpopularity. While the financial analysis of a menu is indeed done “by the numbers,”you must realize that those numbers are just one part, albeit an importantpart, of the total menu analysis picture.For the serious foodservice manager, the analysis of a menu deserves specialstudy. Many components of the menu, such as pricing, layout, design, and copy,play an important role in the overall success of a foodservice operation. The foodservicemanager who does not seek to understand how a menu truly works is akinto the manager who does not seek to understand the essential components of makinga good cup of coffee! If you investigate the menu analysis methods that havebeen widely analyzed and used in recent times, you will find that each seeks to performa menu analysis using one or more of the following operational variables withwhich you are familiar:• Food cost percentage• Popularity• Contribution margin• Selling price• Variable expenses• Fixed expensesAlthough there are many variations, three of the most popular systems of menuanalysis, shown in Figure 10.1, are discussed here because they represent the three majorphilosophical approaches to menu analysis. The matrix analysis referenced in Figure10.1 provides a method for comparisons between menu items. A matrix allowsmenu items to be placed into categories based on whether they are above or belowoverall menu item averages such as food cost %, popularity, and contribution margin.Each approach to menu analysis has its proponents and detractors, but an understandingof each will help you as you attempt to develop your own philosophyof menu analysis.FIGURE 10.1 Three Methods of Menu Analysis______________________________________________________________________________                                                 AnalysisMethod                   Variables Considered    Method     Goal1. Food cost %           a. Food cost %          Matrix     Minimize overall                         b. Popularity                      food cost %______________________________________________________________________________2. Contribution margin   a. Contribution margin  Matrix     Maximize contribu-                         b. Popularity                       -tion margin______________________________________________________________________________3. Goal value analysis   a. Contribution         Algebraic  Achieve predeter-                            margin %             equation   -mined profit %                         b. Popularity                       goals                         c. Selling price                         d. Variable cost %                         e. Food cost %______________________________________________________________________________

FOOD COST PERCENTAGEMenu analysis that focuses on food cost percentage is the oldest and most traditionalmethod used. When analyzing a menu using the food cost percentage method,you are seeking menu items that have the effect of minimizing your overall foodcost percentage. The rationale for this is that a lowered food cost percentage leavesmore of the sales dollar to be spent for other operational expenses. A criticism ofthe food cost percentage approach is that items that have a higher food cost percentagemay be removed from the menu in favor of items that have a lower foodcost percentage but that, when purchased by guests, also contribute fewer dollarsto overall profit.To illustrate the use of the food cost percentage menu analysis method, considerthe case of Maureen, who operates a steak and seafood restaurant near thebeach in a busy resort town. Maureen sells seven items in the entrée section of hermenu. The items and information related to their cost, selling price, and popularityare presented in Figure 10.2.FIGURE 10.2 Maureen’s Menu Analysis WorksheetIMAGE(https://etravelweek.com/hmattachments/26_200911050200051RkTq.gif)To determine her average selling price, Maureen divides total sales by the totalnumber of items sold. In this case, the computation is $11,583/700 = $16.55. To de-termine her total food cost percentage, she divides total cost by total sales. The computation is $4,002.77/$11,583 = 35%. The columns titled Item Contribution Marginand Total Contribution Margin are not used in the food cost percentage approach tomenu analysis and, thus, are not discussed until later in this article.To analyze her menu using the food cost percentage method, Maureen mustsegregate her items based on the following two variables:1. Food cost percentage2. Popularity (number sold)

Since Maureen’s overall food cost is 35%, she determines that any individualmenu item with a food cost percentage above 35% will be consideredhigh in food cost percentage, while any menu item with a food cost below35% will be considered low. In a similar vein, with a total of 700 entrées servedin this accounting period and seven possible menu choices, each menu item wouldsell 700/7, or 100 times, if all were equally popular. Given that fact, Maureen determinesthat any item sold more than 100 times during this week’s accounting periodwould be considered high in popularity, while any item selling less than 100times would be considered low in popularity. Having made these determinations,Maureen can produce a matrix labeled as follows:IMAGE(https://etravelweek.com/hmattachments/26_200911050200059908u.gif)Based on the number sold and food cost percentage data in Figure 10.2, Maureencan classify her menu items in the following manner:Square     Characteristics        Menu Item____________________________________________________________________1          High food cost %,      Strip steak, lobster stir-fry           low popularity2          High food cost %,      Grilled tuna, beef medallions           high popularity3          Low food cost %,       Scallops/pasta           low popularity4          Low food cost %,       Coconut shrimp, chicken breast           high popularityNote that each menu item inhabits one, and only one, square. Using the foodcost percentage method of menu analysis, Maureen would like as many menu itemsas possible to fall within square 4. These items have the characteristics of being lowin food cost percentage but high in guest acceptance. Thus, both coconut shrimpand chicken breast have below-average food cost percentages and above-averagepopularity. When developing a menu that seeks to minimize food cost percentage,items in the fourth square are highly desirable. These, of course, are kept on themenu. They should be well promoted and have high menu visibility. Promote themto your best guests and take care not to develop and attempt to sell a menu itemthat is similar enough in nature that it could detract from the sales of these items.The characteristics of the menu items that fall into each of the four matrixsquares are unique and, thus, should be managed differently. Because of this,each individual square requires a special marketing strategy, depending on theirsquare location. These strategies can be summarized as shown in Figure 10.3.

FIGURE 10.3 Analysis of Food Cost Matrix Results
_______________________________________________________________________________
Square  Characteristics      Problem Marketing       Strategy
_______________________________________________________________________________
1       High food cost %,    Marginal due to both    a. Remove from the menu.
        low popularity       high product cost       b. Consider current food
                             and lack of sales          trends to determine
                                                        unpopular or if its
                                                        method of preparation
                                                        is.
                                                     c. Survey guests to deter-
                                                        -mine current wants
                                                        regarding this item.
                                                     d. If this is a high-
                                                        contribution-margin
                                                        item, consider reducing
                                                        price and/or portion
                                                        size.
_______________________________________________________________________________
2       High food cost %,    Marginal due to high    a. Increase price.
        high popularity      product cost            b. Reduce prominence on
                                                        the menu.
                                                     c. Reduce portion size.
                                                     d. "Bundle" the sale of
                                                        this item with one that
                                                        has a lower cost and,
                                                        thus, provides better
                                                        overall food cost %.
_______________________________________________________________________________
3       Low food cost %,     Marginal due to lack    a. Relocate on the menu
        low popularity       of sales                   for greater visibility.
                                                     b. Take off the regular me
                                                       -nu and run as specials.
                                                     c. Reduce menu price.
                                                     d. Eliminate other unpopu-
                                                        lar menu items in order
                                                        to increase demand for
                                                        this one.
_______________________________________________________________________________
4       Low food cost %,     None                    a. Promote well.
        high popularity                              b. Increase visibility on
                                                        the menu.
_______________________________________________________________________________It can be quite effective to use the food cost percentage method of menu evaluation. It is fast, logical, and time-tested. Remember that if you achieve too high a foodcost percentage, you run the risk that not enough percentage points will remainto generate a profit on your sales. There are other factors to consider, however.

You should be cautioned against promoting low-cost items with low sellingprices at the expense of items that have a higher food cost percentage but that alsocontribute greater gross profits. For example, most foodservice operators would sayit is better to achieve a 20% food cost than a 40% food cost. Consider, however,a chicken dish that sells for $5.00 and costs you just $1.00 to make. This itemyields a 20% food cost ($1.00/$5.00 = 20%), and there are $4.00 ($5.00 - $1.00 =$4.00) remaining to pay for the labor and other expenses of serving this guest.Compare that to the same guest buying steak for $10.00 that costs you $4.00 tomake. Your food cost percentage would be 40% ($4.00/$10.00 = 40%). In thiscase, however, there would be $6.00 ($10.00 - $4.00 = $6.00) remaining to payfor the labor and other expenses of serving this guest. For this reason, some operatorsprefer to analyze their menus using the contribution margin matrix.CONTRIBUTION MARGINWhen analyzing a menu using the contribution margin approach, the operator seeksto produce a menu that maximizes the overall contribution margin. Recall fromprevious articles that contribution margin per menu item is defined as the amount thatremains after the product cost of the menu item is subtracted from the item’s sellingprice. Contribution margin is the amount that you will have available to payfor your labor and other expenses and to keep for your profit. Thus, from Figure10.2, if an item on Maureen’s menu, such as strip steak, sells for $17.95 and theproduct cost for the item is $8.08, the contribution margin per menu item wouldbe computed as follows:       Selling Price - Product Cost = Contribution Margin per Menu Item                                    or                          $17.95 - $8.08 = $9.87When contribution margin is the driving factor in analyzing a menu, thetwo variables used for the analysis are contribution margin and item popularity.To illustrate the use of the contribution margin approach to menu analysis,the data in Figure 10.2 are again used. In this case, Maureen must again separateher items based on high or low popularity, which gives the same results asthose obtained when using the food cost percentage method; thus, any item thatsells 700/7, or 100 times or more is considered to be a high-popularity item,while any menu choice selling less than 100 times would be considered low inpopularity. To employ the contribution margin approach to menu analysis, Maureencomputes her average item contribution margin. When computing averagecontribution margin for the entire menu, two steps are required. First, to determinethe total contribution margin for the menu, the following formula isused:    Total Sales - Total Product Costs = Total Contribution Margin                                      or               $11,583.00 - $4,002.77 = $7,580.23Because 700 total menu items were sold, you can determine the average contributionmargin per item using the following formula:    Total Contribution Margin / Number of Items Sold  = Average Contribution Margin per Item  or    $7,580.23 / 700 = $10.83

To develop the contribution margin matrix, you proceed along much the samelines as with the food cost percentage matrix. In this case, average item popularityis 100 and average item contribution margin is $10.83. The matrix is developed asfollows:IMAGE(https://etravelweek.com/hmattachments/26_2009110502000510EgXz.gif)Maureen now classifies her menu items according to the contribution marginmatrix in the following manner:Square   Characteristics               Menu Item___________________________________________________________________________1        High Contribution Margin,     Scallops/Pasta         Low Popularity2        High Contribution Margin,     Coconut Shrimp,          High Popularity               Chicken Breast3        Low Contribution Margin,      Strip Steak,         Low Popularity                Lobster Stir-Fry4        Low Contribution Margin,      Grilled Tuna,         High Popularity               Beef MedallionsAgain, each menu item finds itself in one, and only one, matrix square. Usingthe contribution margin method of menu analysis, Maureen would like as many ofher menu items as possible to fall within square 2, that is, high contribution marginand high popularity. From this analysis, Maureen knows that both coconutshrimp and chicken breast yield a higher than average contribution margin. In addition,these items sell very well. Just as Maureen would seek to give high menuvisibility to items with low food cost percentage and high popularity when usingthe food cost percentage method of menu analysis, she would seek to give that samevisibility to items with high contribution margin and high popularity when usingthe contribution margin approach.Each of the menu items that fall in the other squares requires a special marketingstrategy, depending on its square location. These strategies can be summarizedas shown in Figure 10.4.A frequent, and legitimate, criticism of the contribution margin approach tomenu analysis is that it tends to favor high-priced menu items over low-priced ones,since higher-priced menu items, in general, tend to have the highest contributionmargins. Over the long term, this can result in sales techniques and menu placementdecisions that tend to put in the guest’s mind a higher check average than theoperation may warrant or desire. This may not be desirable at all. Alternatively,the successful menu strategy related to Maureen’s 99 cent value menu items (theseprices have not changed in the last decade) is not one of maximizing contributionmargin.

The selection of either food cost percentage or contribution margin as a menuanalysis technique is really an attempt by the foodservice operator to answer thefollowing questions:• Are my menu items priced correctly?• Are the individual menu items selling well enough to warrant keeping themon the menu?• Is the overall profit margin on my menu items satisfactory?FIGURE 10.4 Analysis of Contribution Margin Matrix Results______________________________________________________________________________Square  Characteristics     Problem Marketing     Strategy1       High contribution   Marginal due to lack  a. Relocate on menu for        margin, low         of sales                 greater visibility.        popularity                                b. Consider reducing selling                                                     price.______________________________________________________________________________2       High contribution   None                  a. Promote well.        margin, high                              b. Increase prominence on the        popularity                                   menu.______________________________________________________________________________3       Low contribution    Marginal due to both  a. Remove from menu.        margin, low         low contribution      b. Consider offering as a        popularity          margin and lack of       special occasionally, but                            sales                    at a higher menu price.______________________________________________________________________________4       Low contribution    Marginal due to low   a. Increase price.        margin, high        contribution          b. Reduce prominence on the        popularity          margin                   menu.                                                  c. Consider reducing portion                                                     size.______________________________________________________________________________The use of matrix menu analysis is, overly simplisticfor use in today’s sophisticated foodservice operations. Because of the limita-tions of matrix analysis, neither the matrix food cost nor the matrix contributionmargin approach is tremendously effective in analyzing menus. This is the case because,mathematically, the axes on the matrix are determined by the mean (average)of food cost percentage, contribution margin or sales level (popularity). Whenthis is done, some items will always fall into the less desirable categories. This isso because, in matrix analysis, high food cost percentage, for instance, really meansfood cost percentage above that operation’s average. Obviously, then, some itemsmust fall below the average regardless of their contribution to operational profitability.Eliminating the poorest items only shifts other items into undesirable categories.To illustrate this significant drawback to matrix analysis, consider the followingexample. Assume that Homer, one of Maureen’s competitors, sells only fouritems, as follows:                          Homer’s No. 1 Menu____________________________________________________________________________              Item                               Number Sold____________________________________________________________________________              Beef                                    70              Chicken                                 60              Pork                                    15              Seafood                                 55              Total                                   200              Average sold                          50 (200/4)

Homer may elect to remove the pork item, since its sales range is below theaverage of 50 items sold. If Homer adds turkey to the menu and removes the pork,he could get the following results:       Homer’s No. 2 Menu_______________________________________Item                     Number Sold_______________________________________Beef                          65Chicken                       55Turkey                        50Seafood                       30Total                         200Average sold             50 (200/4)As can be seen, the turkey item drew sales away from the beef, chicken, andseafood dishes and did not increase the total number of menu items sold. In this case,it is now the seafood item that falls below the menu average. Should it be removedbecause its sales are below average? Clearly, this might not be wise. Removing theseafood item might serve only to draw sales from the remaining items to the seafoodreplacement item. Obviously, the same type of result can occur when you use a matrixto analyze food cost percentage or contribution margin. As someone once stated,half of us are always below average in anything. Thus, the matrix approach forcessome items to be below average. How, then, can an operator answer questions relatedto price, sales volume, and overall profit margin? One answer is to avoid theoverly simplistic and ineffective matrix analysis and employ all, or even part, of amore effective method of menu analysis called goal value analysis.GOAL VALUE ANALYSISGoal value analysis was introduced by Dr. David Hayes (www.pandapros.com) andDr. Lynn Huffman (Texas Tech University) in an article titled “Menu Analysis: ABetter Way” (Hayes & Huffman, 1985), published by the respected and refereedhospitality journal The Cornell Quarterly. Ten years later, at the height of whatwas known as the “value pricing” (i.e., extremely low pricing strategies used todrive significant increases in guest counts) debate, the effectiveness of goal valueanalysis was again proved in a second article, “Value Pricing: How Low Can YouGo?” (Hayes & Huffman, 1995), which was also published in The Cornell Quarc10.terly. Ultimately, the system was reviewed and improved upon by Dr. Lea Dopsonof the University of North Texas.Essentially, goal value analysis uses the power of an algebraic formula to replaceless sophisticated menu average techniques. Before the widespread introductionof computerized spreadsheet programs, some managers found the computationsrequired to use goal value analysis challenging. Today, however, suchcomputations are easily made. The advantages of goal value analysis are many, includingease of use, accuracy, and the ability to simultaneously consider more variablesthan is possible with two-dimensional matrix analysis. Mastering the powerof goal value analysis can truly help you design menus that are effective, popular,and, most important, profitable.Goal value analysis evaluates each menu item’s food cost percentage, contributionmargin, and popularity and, unlike the two previous analysis methods introduced,includes the analysis of the menu item’s nonfood variable costs as wellas its selling price. Returning to the data in Figure 10.2, we see that Maureen hasan overall food cost % of 35%. In addition, she served 700 guests at an entréecheck average of $16.55. If we knew about Maureen’s overall fixed and variablecosts, we would know more about the profitability of each of Maureen’s menuitems. One difficulty, of course, resides in the assignment of nonfood variable costs to individual menu items.

The issue is complex. It is very likely true, for example, that different items onMaureen’s menu require differing amounts of labor to prepare. For instance, thestrip steak on her menu is purchased precut and vacuum-sealed. Its preparationsimply requires opening the steak package, seasoning the steak, and placing it ona broiler. The lobster stir-fry, on the other hand, is a complex dish that requirescooking and shelling the lobster, cleaning and trimming the vegetables, then preparingthe item when ordered by quickly cooking the lobster, vegetables, and a saucein a wok. Thus, the variable labor cost of preparing the two dishes is very different.It is assumed that Maureen responds to these differing costs by charging morefor a more labor-intensive dish and less for one that is less labor intensive. Otherdishes require essentially the same amount of labor to prepare; thus, their variablelabor costs figure less significantly in the establishment of price. Because that istrue, for analysis purposes, most operators find it convenient to assign variable coststo individual menu items based on menu price. For example, if labor and othervariable costs are 30% of total sales, all menu items may be assigned that samevariable cost percentage of their selling price.For the purpose of her goal value analysis, Maureen determines her total variablecosts. These are all the costs that vary with her sales volume, excluding thecost of the food itself. She computes those variable costs from her P&L statementand finds that they account for 30% of her total sales. Using this information, Maureenassigns a variable cost of 30% of selling price to each menu item.Having compiled the information in Figure 10.2, Maureen can use the algebraicgoal value formula to create a specific goal value for her entire menu, thenuse the same formula to compute the goal value of each individual menu item.Menu items that achieve goal values higher than that of the overall menu goal valuewill contribute greater than average profit percentages. As the goal value for anitem increases, so too does its profitability percentage. The overall menu goal valuecan be used as a “target” in this way, assuming that Maureen’s average food cost%, average number of items sold per menu item, average selling price (check average),and average variable cost % all meet the overall profitability goals of herrestaurant. The goal value formula is as follows:       A x B x C x D = Goal Valuewhere       A = 1.00 - Food Cost %       B = Item Popularity       C = Selling Price       D = 1.00 - (Variable Cost % + Food Cost %)Note that A in the preceding formula is really the contribution margin percentageof a menu item and that D is the amount available to fund fixed costs andprovide for a profit after all variable costs are covered.Maureen uses this formula to compute the goal value of her total menu andfinds that:A              x B x C x D                             = Goal Value(1.00 - 0.35)  x 100 x $16.55 x [1.00 - (0.30 + 0.35)] = Goal Valueor0.65           x 100 x $16.55 x 0.35                   = 376.5

9. Blend budgets from multiple profit centers (or multiple units).10. Perform budgeted cash flow analysis.For commercial operators, it is simply not wise to attempt to operate an effective foodserviceunit without a properly priced menu and an accurate budget that reflects estimated sales and expenselevels.Key Terms and ConceptsMatrix analysisContribution margin per menu itemGoal value analysisLoss leadersBreak-even pointCost/volume/profit (CVP) analysisContribution margin income statementContribution margin for overall operationMinimum sales point(MSP)Minimum operating costBudgetLong-range budgetAnnual budgetAchievement budgetSales per seatYardstick method

FOOD COST PERCENTAGEMenu analysis that focuses on food cost percentage is the oldest and most traditionalmethod used. When analyzing a menu using the food cost percentage method,you are seeking menu items that have the effect of minimizing your overall foodcost percentage. The rationale for this is that a lowered food cost percentage leavesmore of the sales dollar to be spent for other operational expenses. A criticism ofthe food cost percentage approach is that items that have a higher food cost percentagemay be removed from the menu in favor of items that have a lower foodcost percentage but that, when purchased by guests, also contribute fewer dollarsto overall profit.To illustrate the use of the food cost percentage menu analysis method, considerthe case of Maureen, who operates a steak and seafood restaurant near thebeach in a busy resort town. Maureen sells seven items in the entrée section of hermenu. The items and information related to their cost, selling price, and popularityare presented in Figure 10.2.FIGURE 10.2 Maureen’s Menu Analysis WorksheetIMAGE(https://etravelweek.com/hmattachments/26_200911050200051RkTq.gif)To determine her average selling price, Maureen divides total sales by the totalnumber of items sold. In this case, the computation is $11,583/700 = $16.55. To de-termine her total food cost percentage, she divides total cost by total sales. The computation is $4,002.77/$11,583 = 35%. The columns titled Item Contribution Marginand Total Contribution Margin are not used in the food cost percentage approach tomenu analysis and, thus, are not discussed until later in this article.To analyze her menu using the food cost percentage method, Maureen mustsegregate her items based on the following two variables:1. Food cost percentage2. Popularity (number sold)

Since Maureen’s overall food cost is 35%, she determines that any individualmenu item with a food cost percentage above 35% will be consideredhigh in food cost percentage, while any menu item with a food cost below35% will be considered low. In a similar vein, with a total of 700 entrées servedin this accounting period and seven possible menu choices, each menu item wouldsell 700/7, or 100 times, if all were equally popular. Given that fact, Maureen determinesthat any item sold more than 100 times during this week’s accounting periodwould be considered high in popularity, while any item selling less than 100times would be considered low in popularity. Having made these determinations,Maureen can produce a matrix labeled as follows:IMAGE(https://etravelweek.com/hmattachments/26_200911050200059908u.gif)Based on the number sold and food cost percentage data in Figure 10.2, Maureencan classify her menu items in the following manner:Square     Characteristics        Menu Item____________________________________________________________________1          High food cost %,      Strip steak, lobster stir-fry           low popularity2          High food cost %,      Grilled tuna, beef medallions           high popularity3          Low food cost %,       Scallops/pasta           low popularity4          Low food cost %,       Coconut shrimp, chicken breast           high popularityNote that each menu item inhabits one, and only one, square. Using the foodcost percentage method of menu analysis, Maureen would like as many menu itemsas possible to fall within square 4. These items have the characteristics of being lowin food cost percentage but high in guest acceptance. Thus, both coconut shrimpand chicken breast have below-average food cost percentages and above-averagepopularity. When developing a menu that seeks to minimize food cost percentage,items in the fourth square are highly desirable. These, of course, are kept on themenu. They should be well promoted and have high menu visibility. Promote themto your best guests and take care not to develop and attempt to sell a menu itemthat is similar enough in nature that it could detract from the sales of these items.The characteristics of the menu items that fall into each of the four matrixsquares are unique and, thus, should be managed differently. Because of this,each individual square requires a special marketing strategy, depending on theirsquare location. These strategies can be summarized as shown in Figure 10.3.

FIGURE 10.3 Analysis of Food Cost Matrix Results
_______________________________________________________________________________
Square  Characteristics      Problem Marketing       Strategy
_______________________________________________________________________________
1       High food cost %,    Marginal due to both    a. Remove from the menu.
        low popularity       high product cost       b. Consider current food
                             and lack of sales          trends to determine
                                                        unpopular or if its
                                                        method of preparation
                                                        is.
                                                     c. Survey guests to deter-
                                                        -mine current wants
                                                        regarding this item.
                                                     d. If this is a high-
                                                        contribution-margin
                                                        item, consider reducing
                                                        price and/or portion
                                                        size.
_______________________________________________________________________________
2       High food cost %,    Marginal due to high    a. Increase price.
        high popularity      product cost            b. Reduce prominence on
                                                        the menu.
                                                     c. Reduce portion size.
                                                     d. "Bundle" the sale of
                                                        this item with one that
                                                        has a lower cost and,
                                                        thus, provides better
                                                        overall food cost %.
_______________________________________________________________________________
3       Low food cost %,     Marginal due to lack    a. Relocate on the menu
        low popularity       of sales                   for greater visibility.
                                                     b. Take off the regular me
                                                       -nu and run as specials.
                                                     c. Reduce menu price.
                                                     d. Eliminate other unpopu-
                                                        lar menu items in order
                                                        to increase demand for
                                                        this one.
_______________________________________________________________________________
4       Low food cost %,     None                    a. Promote well.
        high popularity                              b. Increase visibility on
                                                        the menu.
_______________________________________________________________________________It can be quite effective to use the food cost percentage method of menu evaluation. It is fast, logical, and time-tested. Remember that if you achieve too high a foodcost percentage, you run the risk that not enough percentage points will remainto generate a profit on your sales. There are other factors to consider, however.

You should be cautioned against promoting low-cost items with low sellingprices at the expense of items that have a higher food cost percentage but that alsocontribute greater gross profits. For example, most foodservice operators would sayit is better to achieve a 20% food cost than a 40% food cost. Consider, however,a chicken dish that sells for $5.00 and costs you just $1.00 to make. This itemyields a 20% food cost ($1.00/$5.00 = 20%), and there are $4.00 ($5.00 - $1.00 =$4.00) remaining to pay for the labor and other expenses of serving this guest.Compare that to the same guest buying steak for $10.00 that costs you $4.00 tomake. Your food cost percentage would be 40% ($4.00/$10.00 = 40%). In thiscase, however, there would be $6.00 ($10.00 - $4.00 = $6.00) remaining to payfor the labor and other expenses of serving this guest. For this reason, some operatorsprefer to analyze their menus using the contribution margin matrix.CONTRIBUTION MARGINWhen analyzing a menu using the contribution margin approach, the operator seeksto produce a menu that maximizes the overall contribution margin. Recall fromprevious articles that contribution margin per menu item is defined as the amount thatremains after the product cost of the menu item is subtracted from the item’s sellingprice. Contribution margin is the amount that you will have available to payfor your labor and other expenses and to keep for your profit. Thus, from Figure10.2, if an item on Maureen’s menu, such as strip steak, sells for $17.95 and theproduct cost for the item is $8.08, the contribution margin per menu item wouldbe computed as follows:       Selling Price - Product Cost = Contribution Margin per Menu Item                                    or                          $17.95 - $8.08 = $9.87When contribution margin is the driving factor in analyzing a menu, thetwo variables used for the analysis are contribution margin and item popularity.To illustrate the use of the contribution margin approach to menu analysis,the data in Figure 10.2 are again used. In this case, Maureen must again separateher items based on high or low popularity, which gives the same results asthose obtained when using the food cost percentage method; thus, any item thatsells 700/7, or 100 times or more is considered to be a high-popularity item,while any menu choice selling less than 100 times would be considered low inpopularity. To employ the contribution margin approach to menu analysis, Maureencomputes her average item contribution margin. When computing averagecontribution margin for the entire menu, two steps are required. First, to determinethe total contribution margin for the menu, the following formula isused:    Total Sales - Total Product Costs = Total Contribution Margin                                      or               $11,583.00 - $4,002.77 = $7,580.23Because 700 total menu items were sold, you can determine the average contributionmargin per item using the following formula:    Total Contribution Margin / Number of Items Sold  = Average Contribution Margin per Item  or    $7,580.23 / 700 = $10.83

To develop the contribution margin matrix, you proceed along much the samelines as with the food cost percentage matrix. In this case, average item popularityis 100 and average item contribution margin is $10.83. The matrix is developed asfollows:IMAGE(https://etravelweek.com/hmattachments/26_2009110502000510EgXz.gif)Maureen now classifies her menu items according to the contribution marginmatrix in the following manner:Square   Characteristics               Menu Item___________________________________________________________________________1        High Contribution Margin,     Scallops/Pasta         Low Popularity2        High Contribution Margin,     Coconut Shrimp,          High Popularity               Chicken Breast3        Low Contribution Margin,      Strip Steak,         Low Popularity                Lobster Stir-Fry4        Low Contribution Margin,      Grilled Tuna,         High Popularity               Beef MedallionsAgain, each menu item finds itself in one, and only one, matrix square. Usingthe contribution margin method of menu analysis, Maureen would like as many ofher menu items as possible to fall within square 2, that is, high contribution marginand high popularity. From this analysis, Maureen knows that both coconutshrimp and chicken breast yield a higher than average contribution margin. In addition,these items sell very well. Just as Maureen would seek to give high menuvisibility to items with low food cost percentage and high popularity when usingthe food cost percentage method of menu analysis, she would seek to give that samevisibility to items with high contribution margin and high popularity when usingthe contribution margin approach.Each of the menu items that fall in the other squares requires a special marketingstrategy, depending on its square location. These strategies can be summarizedas shown in Figure 10.4.A frequent, and legitimate, criticism of the contribution margin approach tomenu analysis is that it tends to favor high-priced menu items over low-priced ones,since higher-priced menu items, in general, tend to have the highest contributionmargins. Over the long term, this can result in sales techniques and menu placementdecisions that tend to put in the guest’s mind a higher check average than theoperation may warrant or desire. This may not be desirable at all. Alternatively,the successful menu strategy related to Maureen’s 99 cent value menu items (theseprices have not changed in the last decade) is not one of maximizing contributionmargin.

The selection of either food cost percentage or contribution margin as a menuanalysis technique is really an attempt by the foodservice operator to answer thefollowing questions:• Are my menu items priced correctly?• Are the individual menu items selling well enough to warrant keeping themon the menu?• Is the overall profit margin on my menu items satisfactory?FIGURE 10.4 Analysis of Contribution Margin Matrix Results______________________________________________________________________________Square  Characteristics     Problem Marketing     Strategy1       High contribution   Marginal due to lack  a. Relocate on menu for        margin, low         of sales                 greater visibility.        popularity                                b. Consider reducing selling                                                     price.______________________________________________________________________________2       High contribution   None                  a. Promote well.        margin, high                              b. Increase prominence on the        popularity                                   menu.______________________________________________________________________________3       Low contribution    Marginal due to both  a. Remove from menu.        margin, low         low contribution      b. Consider offering as a        popularity          margin and lack of       special occasionally, but                            sales                    at a higher menu price.______________________________________________________________________________4       Low contribution    Marginal due to low   a. Increase price.        margin, high        contribution          b. Reduce prominence on the        popularity          margin                   menu.                                                  c. Consider reducing portion                                                     size.______________________________________________________________________________The use of matrix menu analysis is, overly simplisticfor use in today’s sophisticated foodservice operations. Because of the limita-tions of matrix analysis, neither the matrix food cost nor the matrix contributionmargin approach is tremendously effective in analyzing menus. This is the case because,mathematically, the axes on the matrix are determined by the mean (average)of food cost percentage, contribution margin or sales level (popularity). Whenthis is done, some items will always fall into the less desirable categories. This isso because, in matrix analysis, high food cost percentage, for instance, really meansfood cost percentage above that operation’s average. Obviously, then, some itemsmust fall below the average regardless of their contribution to operational profitability.Eliminating the poorest items only shifts other items into undesirable categories.To illustrate this significant drawback to matrix analysis, consider the followingexample. Assume that Homer, one of Maureen’s competitors, sells only fouritems, as follows:                          Homer’s No. 1 Menu____________________________________________________________________________              Item                               Number Sold____________________________________________________________________________              Beef                                    70              Chicken                                 60              Pork                                    15              Seafood                                 55              Total                                   200              Average sold                          50 (200/4)

Homer may elect to remove the pork item, since its sales range is below theaverage of 50 items sold. If Homer adds turkey to the menu and removes the pork,he could get the following results:       Homer’s No. 2 Menu_______________________________________Item                     Number Sold_______________________________________Beef                          65Chicken                       55Turkey                        50Seafood                       30Total                         200Average sold             50 (200/4)As can be seen, the turkey item drew sales away from the beef, chicken, andseafood dishes and did not increase the total number of menu items sold. In this case,it is now the seafood item that falls below the menu average. Should it be removedbecause its sales are below average? Clearly, this might not be wise. Removing theseafood item might serve only to draw sales from the remaining items to the seafoodreplacement item. Obviously, the same type of result can occur when you use a matrixto analyze food cost percentage or contribution margin. As someone once stated,half of us are always below average in anything. Thus, the matrix approach forcessome items to be below average. How, then, can an operator answer questions relatedto price, sales volume, and overall profit margin? One answer is to avoid theoverly simplistic and ineffective matrix analysis and employ all, or even part, of amore effective method of menu analysis called goal value analysis.GOAL VALUE ANALYSISGoal value analysis was introduced by Dr. David Hayes (www.pandapros.com) andDr. Lynn Huffman (Texas Tech University) in an article titled “Menu Analysis: ABetter Way” (Hayes & Huffman, 1985), published by the respected and refereedhospitality journal The Cornell Quarterly. Ten years later, at the height of whatwas known as the “value pricing” (i.e., extremely low pricing strategies used todrive significant increases in guest counts) debate, the effectiveness of goal valueanalysis was again proved in a second article, “Value Pricing: How Low Can YouGo?” (Hayes & Huffman, 1995), which was also published in The Cornell Quarc10.terly. Ultimately, the system was reviewed and improved upon by Dr. Lea Dopsonof the University of North Texas.Essentially, goal value analysis uses the power of an algebraic formula to replaceless sophisticated menu average techniques. Before the widespread introductionof computerized spreadsheet programs, some managers found the computationsrequired to use goal value analysis challenging. Today, however, suchcomputations are easily made. The advantages of goal value analysis are many, includingease of use, accuracy, and the ability to simultaneously consider more variablesthan is possible with two-dimensional matrix analysis. Mastering the powerof goal value analysis can truly help you design menus that are effective, popular,and, most important, profitable.Goal value analysis evaluates each menu item’s food cost percentage, contributionmargin, and popularity and, unlike the two previous analysis methods introduced,includes the analysis of the menu item’s nonfood variable costs as wellas its selling price. Returning to the data in Figure 10.2, we see that Maureen hasan overall food cost % of 35%. In addition, she served 700 guests at an entréecheck average of $16.55. If we knew about Maureen’s overall fixed and variablecosts, we would know more about the profitability of each of Maureen’s menuitems. One difficulty, of course, resides in the assignment of nonfood variable costs to individual menu items.

The issue is complex. It is very likely true, for example, that different items onMaureen’s menu require differing amounts of labor to prepare. For instance, thestrip steak on her menu is purchased precut and vacuum-sealed. Its preparationsimply requires opening the steak package, seasoning the steak, and placing it ona broiler. The lobster stir-fry, on the other hand, is a complex dish that requirescooking and shelling the lobster, cleaning and trimming the vegetables, then preparingthe item when ordered by quickly cooking the lobster, vegetables, and a saucein a wok. Thus, the variable labor cost of preparing the two dishes is very different.It is assumed that Maureen responds to these differing costs by charging morefor a more labor-intensive dish and less for one that is less labor intensive. Otherdishes require essentially the same amount of labor to prepare; thus, their variablelabor costs figure less significantly in the establishment of price. Because that istrue, for analysis purposes, most operators find it convenient to assign variable coststo individual menu items based on menu price. For example, if labor and othervariable costs are 30% of total sales, all menu items may be assigned that samevariable cost percentage of their selling price.For the purpose of her goal value analysis, Maureen determines her total variablecosts. These are all the costs that vary with her sales volume, excluding thecost of the food itself. She computes those variable costs from her P&L statementand finds that they account for 30% of her total sales. Using this information, Maureenassigns a variable cost of 30% of selling price to each menu item.Having compiled the information in Figure 10.2, Maureen can use the algebraicgoal value formula to create a specific goal value for her entire menu, thenuse the same formula to compute the goal value of each individual menu item.Menu items that achieve goal values higher than that of the overall menu goal valuewill contribute greater than average profit percentages. As the goal value for anitem increases, so too does its profitability percentage. The overall menu goal valuecan be used as a “target” in this way, assuming that Maureen’s average food cost%, average number of items sold per menu item, average selling price (check average),and average variable cost % all meet the overall profitability goals of herrestaurant. The goal value formula is as follows:       A x B x C x D = Goal Valuewhere       A = 1.00 - Food Cost %       B = Item Popularity       C = Selling Price       D = 1.00 - (Variable Cost % + Food Cost %)Note that A in the preceding formula is really the contribution margin percentageof a menu item and that D is the amount available to fund fixed costs andprovide for a profit after all variable costs are covered.Maureen uses this formula to compute the goal value of her total menu andfinds that:A              x B x C x D                             = Goal Value(1.00 - 0.35)  x 100 x $16.55 x [1.00 - (0.30 + 0.35)] = Goal Valueor0.65           x 100 x $16.55 x 0.35                   = 376.5

9. Blend budgets from multiple profit centers (or multiple units).10. Perform budgeted cash flow analysis.For commercial operators, it is simply not wise to attempt to operate an effective foodserviceunit without a properly priced menu and an accurate budget that reflects estimated sales and expenselevels.Key Terms and ConceptsMatrix analysisContribution margin per menu itemGoal value analysisLoss leadersBreak-even pointCost/volume/profit (CVP) analysisContribution margin income statementContribution margin for overall operationMinimum sales point(MSP)Minimum operating costBudgetLong-range budgetAnnual budgetAchievement budgetSales per seatYardstick method

According to this formula, any menu item whose goal value equals or exceeds376.5 will achieve profitability that equals or exceeds that of Maureen’s overallmenu. The computed goal value carries no unit designation; that is, it is neithera percentage nor a dollar figure because it is really a numerical target or score.Figure 10.5 details the goal value data Maureen needs to complete a goal valueanalysis on each of her seven menu items.FIGURE 10.5 Maureen’s Goal Value Analysis Data_____________________________________________________________________________                  Food Cost %         Number    Selling     Variable Cost %Item              (in decimal form)   Sold      Price       (in decimal form)_____________________________________________________________________________Strip Steak            0.45             73      $17.95            0.30Coconut Shrimp         0.30            121       16.95            0.30Grilled Tuna           0.40            105       17.95            0.30Chicken Breast         0.22            140       13.95            0.30Lobster Stir-Fry       0.51             51       21.95            0.30Scallops/Pasta         0.24             85       14.95            0.30Beef Medallions        0.37            125       15.95            0.30_____________________________________________________________________________Figure 10.6 details the results of Maureen’s goal value analysis. Note that shehas calculated the goal values of her menu items and ranked them in order of highestto lowest goal value. She has also inserted her overall menu goal value in theappropriate rank order.FIGURE 10.6 Goal Value Analysis Results______________________________________________________________________________Rank  Menu Item       A           B      C      D                   Goal Value1     Chicken Breast  (1 - 0.22)  140  $13.95   1 - (0.30 + 0.22)       731.22     Coconut Shrimp  (1 - 0.30)  121   16.95   1 - (0.30 + 0.30)       574.33     Scallops/Pasta  (1 - 0.24)  85    14.95   1 - (0.30 + 0.24)       444.34     Beef Medallions (1 - 0.37)  125   15.95   1 - (0.30 + 0.37)       414.5      Overall Menu    (1 - 0.35)  100  $16.55   (1 - (0.30 + 0.35)      376.5      (Goal Value)5     Grilled Tuna    (1 - 0.40)  105   17.95   1 - (0.30 + 0.40)       339.36     Strip Steak     (1 - 0.45)  73    17.95   1 - (0.30 + 0.45)       180.27     Lobster Stir-Fry (1 - 0.51) 51    21.95   1 - (0.30 + 0.51)       104.2______________________________________________________________________________Note that the grilled tuna falls slightly below the profitability of the entire menu,while the strip steak and lobster stir-fry fall substantially below the overall goalvalue score. Should these two items be replaced? The answer, most likely, is no ifMaureen is satisfied with her current target food cost percentage, profit margin,check average, and guest count. Every menu will have items that are more or lessprofitable than others. In fact, some operators develop items called loss leaders. Aloss leader is a menu item that is priced very low, sometimes even below total costs,for the purpose of drawing large numbers of guests to the operation. If, for example,Maureen has the only operation in town that serves outstanding lobster stircfry, that item may, in fact, contribute to the overall success of the operation bydrawing people who will buy it, while their fellow diners may order items that aremore profitable.

According to this formula, any menu item whose goal value equals or exceeds376.5 will achieve profitability that equals or exceeds that of Maureen’s overallmenu. The computed goal value carries no unit designation; that is, it is neithera percentage nor a dollar figure because it is really a numerical target or score.Figure 10.5 details the goal value data Maureen needs to complete a goal valueanalysis on each of her seven menu items.FIGURE 10.5 Maureen’s Goal Value Analysis Data_____________________________________________________________________________                  Food Cost %         Number    Selling     Variable Cost %Item              (in decimal form)   Sold      Price       (in decimal form)_____________________________________________________________________________Strip Steak            0.45             73      $17.95            0.30Coconut Shrimp         0.30            121       16.95            0.30Grilled Tuna           0.40            105       17.95            0.30Chicken Breast         0.22            140       13.95            0.30Lobster Stir-Fry       0.51             51       21.95            0.30Scallops/Pasta         0.24             85       14.95            0.30Beef Medallions        0.37            125       15.95            0.30_____________________________________________________________________________Figure 10.6 details the results of Maureen’s goal value analysis. Note that shehas calculated the goal values of her menu items and ranked them in order of highestto lowest goal value. She has also inserted her overall menu goal value in theappropriate rank order.FIGURE 10.6 Goal Value Analysis Results______________________________________________________________________________Rank  Menu Item       A           B      C      D                   Goal Value1     Chicken Breast  (1 - 0.22)  140  $13.95   1 - (0.30 + 0.22)       731.22     Coconut Shrimp  (1 - 0.30)  121   16.95   1 - (0.30 + 0.30)       574.33     Scallops/Pasta  (1 - 0.24)  85    14.95   1 - (0.30 + 0.24)       444.34     Beef Medallions (1 - 0.37)  125   15.95   1 - (0.30 + 0.37)       414.5      Overall Menu    (1 - 0.35)  100  $16.55   (1 - (0.30 + 0.35)      376.5      (Goal Value)5     Grilled Tuna    (1 - 0.40)  105   17.95   1 - (0.30 + 0.40)       339.36     Strip Steak     (1 - 0.45)  73    17.95   1 - (0.30 + 0.45)       180.27     Lobster Stir-Fry (1 - 0.51) 51    21.95   1 - (0.30 + 0.51)       104.2______________________________________________________________________________Note that the grilled tuna falls slightly below the profitability of the entire menu,while the strip steak and lobster stir-fry fall substantially below the overall goalvalue score. Should these two items be replaced? The answer, most likely, is no ifMaureen is satisfied with her current target food cost percentage, profit margin,check average, and guest count. Every menu will have items that are more or lessprofitable than others. In fact, some operators develop items called loss leaders. Aloss leader is a menu item that is priced very low, sometimes even below total costs,for the purpose of drawing large numbers of guests to the operation. If, for example,Maureen has the only operation in town that serves outstanding lobster stircfry, that item may, in fact, contribute to the overall success of the operation bydrawing people who will buy it, while their fellow diners may order items that aremore profitable.

The accuracy of goal value analysis is well documented. Used properly, it is aconvenient way for management to make shorthand decisions regarding requiredprofitability, sales volume, and pricing. Because all of the values needed for the goalvalue formula are readily available, management need not concern itself with puzzlingthrough endless decisions about item replacement.Items that do not achieve the targeted goal value tend to be deficient in one ormore of the key areas of food cost percentage, popularity, selling price, or variablecost percentage. In theory, all menu items have the potential of reaching the goalvalue, although management may determine that some menu items can indeed bestserve the operation as loss leaders. For example, examine the goal value analysisresults for the item strip steak:___________________________________________________________________________A                         x B x C x D                         = Goal ValueStrip Steak (1.00 - 0.45) x 73 x $17.95 x [1 - (0.30 + 0.45)] = Goal Value0.55                      x 73 x $17.95 x 0.25                = 180.2___________________________________________________________________________This item did not meet the goal value target. Why? There can be several answers.One is that the item’s 45% food cost is too high. This can be addressed byreducing portion size or changing the item’s recipe, since both of these actions havethe effect of reducing the food cost % and, thus, increasing the A value. A second approach to improving the goal value score of the strip steak is towork on improving the B value, that is, the number of times the item is sold. Thismay be done through merchandising or, since it is one of the more expensive itemson the menu, incentives to waitstaff for upselling this item. Variable C, menu price,while certainly in line with the rest of the menu, can also be adjusted upward; however,you must remember that adjustments upward in C may well result in declinesin the number of items sold (B value)! Increases in the menu price will also havethe effect of decreasing the food cost % of the menu item. This is because item foodcost % * food cost of the item/menu price. Obviously, the changes you undertakeas a result of menu analysis are varied and can be complex. As you gain experiencein knowing the tastes and behavior of your guests, however, your skill in menurelateddecision making will quickly improve.Sophisticated users of the goal value analysis system can, as suggested by LendalKotschevar, in his book Management By Menu (Kotschevar, 2001), modify the formulato increase its accuracy and usefulness even more. In the area of variable costs,a menu item might be assigned a low, medium, or high variable cost. If overall variablecosts equal 30%, for example, management may choose to assign a variablecost of 25% to those items with very low labor costs attached to them, 30% toothers with average labor costs, and 35% to others with even higher costs. Thisadjustment affects only the D variable of the goal value formula and can be accommodatedquite easily.Goal value analysis will also allow you to make better decisions more quickly.This is especially true if you know a bit of algebra and realize that anytime you determinea desired goal value and when any three of the four variables contained in theformula are known, you can solve for the fourth unknown variable by using goal valueas the numerator and placing the known variables in the denominator. Figure 10.7shows you how to solve for each unknown variable in the goal value formula.To illustrate how the information in Figure 10.7 can be used, let’s return tothe information in Figure 10.6 and assume that, in Maureen’s case, she feels the12-ounce strip steak she is offering may be too large for her typical guest and thatis why its popularity (B value) is low. Thus, Maureen elects to take three actions:1. She reduces the portion size of the item from 12 ounces to 9 ounces, resultingin a reduction in her food cost from $8.08 to $6.10.

The accuracy of goal value analysis is well documented. Used properly, it is aconvenient way for management to make shorthand decisions regarding requiredprofitability, sales volume, and pricing. Because all of the values needed for the goalvalue formula are readily available, management need not concern itself with puzzlingthrough endless decisions about item replacement.Items that do not achieve the targeted goal value tend to be deficient in one ormore of the key areas of food cost percentage, popularity, selling price, or variablecost percentage. In theory, all menu items have the potential of reaching the goalvalue, although management may determine that some menu items can indeed bestserve the operation as loss leaders. For example, examine the goal value analysisresults for the item strip steak:___________________________________________________________________________A                         x B x C x D                         = Goal ValueStrip Steak (1.00 - 0.45) x 73 x $17.95 x [1 - (0.30 + 0.45)] = Goal Value0.55                      x 73 x $17.95 x 0.25                = 180.2___________________________________________________________________________This item did not meet the goal value target. Why? There can be several answers.One is that the item’s 45% food cost is too high. This can be addressed byreducing portion size or changing the item’s recipe, since both of these actions havethe effect of reducing the food cost % and, thus, increasing the A value. A second approach to improving the goal value score of the strip steak is towork on improving the B value, that is, the number of times the item is sold. Thismay be done through merchandising or, since it is one of the more expensive itemson the menu, incentives to waitstaff for upselling this item. Variable C, menu price,while certainly in line with the rest of the menu, can also be adjusted upward; however,you must remember that adjustments upward in C may well result in declinesin the number of items sold (B value)! Increases in the menu price will also havethe effect of decreasing the food cost % of the menu item. This is because item foodcost % * food cost of the item/menu price. Obviously, the changes you undertakeas a result of menu analysis are varied and can be complex. As you gain experiencein knowing the tastes and behavior of your guests, however, your skill in menurelateddecision making will quickly improve.Sophisticated users of the goal value analysis system can, as suggested by LendalKotschevar, in his book Management By Menu (Kotschevar, 2001), modify the formulato increase its accuracy and usefulness even more. In the area of variable costs,a menu item might be assigned a low, medium, or high variable cost. If overall variablecosts equal 30%, for example, management may choose to assign a variablecost of 25% to those items with very low labor costs attached to them, 30% toothers with average labor costs, and 35% to others with even higher costs. Thisadjustment affects only the D variable of the goal value formula and can be accommodatedquite easily.Goal value analysis will also allow you to make better decisions more quickly.This is especially true if you know a bit of algebra and realize that anytime you determinea desired goal value and when any three of the four variables contained in theformula are known, you can solve for the fourth unknown variable by using goal valueas the numerator and placing the known variables in the denominator. Figure 10.7shows you how to solve for each unknown variable in the goal value formula.To illustrate how the information in Figure 10.7 can be used, let’s return tothe information in Figure 10.6 and assume that, in Maureen’s case, she feels the12-ounce strip steak she is offering may be too large for her typical guest and thatis why its popularity (B value) is low. Thus, Maureen elects to take three actions:1. She reduces the portion size of the item from 12 ounces to 9 ounces, resultingin a reduction in her food cost from $8.08 to $6.10.

FIGURE 10.7 Solving for Goal Value Unknowns____________________________________________________________________________Known Variables           Unknown Variables          Method to Find Unknown____________________________________________________________________________A, B, C, D                Goal Value (GV)            A x B x C x D____________________________________________________________________________B, C, D, GV                 A                        GV / BxCxD____________________________________________________________________________A, C, D, GV                 B                        GV / AxCxD____________________________________________________________________________A, B, D, GV                 C                        GV / AxBxD____________________________________________________________________________A, B, C, GV                 D                        GV / AxBxC____________________________________________________________________________2. Because she knows her guests will likely be hesitant to pay the same pricefor a smaller steak, she also reduces the selling price of this item by $1.00to $16.95. She feels that this will keep the strip steak from losing any popularityresulting from the reduction in portion size. Her new food cost percentagefor this item is 36% ($6.10/$16.95 = 36%).3. Since the labor required to prepare this menu item is so low, she assigns abelow-average 25% variable cost to its D value.Maureen now knows three of the goal value variables for this item and cansolve for the fourth. Maureen knows her A value (1.00 - 0.36), her C value($16.95), and her D value [1.00 - (0.25 + 0.36)]. The question she would ask isthis, “Given this newly structured menu item, how many must be sold to make theitem achieve the targeted goal value?” The answer requires solving the goal valueequation for B, the number sold. From Figure 10.7, recall that, if B is the unknownvariable, it can be computed by using the following formula:             Goal Value / AxCxD = BIn this case:      376.5 / (1.00-0.36)x$16.95x[1.00-(0.25+0.36)] = BThus:                             89 = BAccording to the formula, 89 servings of strip steak would have to be sold toachieve Maureen’s target goal value. Again, goal value analysis is a very useful es-timation tool for management. You can use it to establish a desired food cost percentage,target popularity figure, selling price, or variable cost percentage.Goal value analysis is also powerful because it is not, as is matrix analysis, dependenton past performance to establish profitability but can be used by managementto establish future menu targets. To explain, assume, for a moment, that Maureenwishes to achieve a greater profit margin and a $17.00 entrée average sellingprice for next year. She plans to achieve this through a reduction in her overall foodcost to 33% and her other variable costs to 29%. Her overall menu goal value formulafor next year, assuming no reduction or increase in guest count, would be asfollows:____________________________________________________________________________A             x B x C x D                             = Goal Value(1.00 - 0.33) x 100 x $17.00 x [1.00 - (0.29 + 0.33)] = Goal Valueor0.67          x 100 x $17.00 x 0.38                   = 432.8____________________________________________________________________________

FIGURE 10.7 Solving for Goal Value Unknowns____________________________________________________________________________Known Variables           Unknown Variables          Method to Find Unknown____________________________________________________________________________A, B, C, D                Goal Value (GV)            A x B x C x D____________________________________________________________________________B, C, D, GV                 A                        GV / BxCxD____________________________________________________________________________A, C, D, GV                 B                        GV / AxCxD____________________________________________________________________________A, B, D, GV                 C                        GV / AxBxD____________________________________________________________________________A, B, C, GV                 D                        GV / AxBxC____________________________________________________________________________2. Because she knows her guests will likely be hesitant to pay the same pricefor a smaller steak, she also reduces the selling price of this item by $1.00to $16.95. She feels that this will keep the strip steak from losing any popularityresulting from the reduction in portion size. Her new food cost percentagefor this item is 36% ($6.10/$16.95 = 36%).3. Since the labor required to prepare this menu item is so low, she assigns abelow-average 25% variable cost to its D value.Maureen now knows three of the goal value variables for this item and cansolve for the fourth. Maureen knows her A value (1.00 - 0.36), her C value($16.95), and her D value [1.00 - (0.25 + 0.36)]. The question she would ask isthis, “Given this newly structured menu item, how many must be sold to make theitem achieve the targeted goal value?” The answer requires solving the goal valueequation for B, the number sold. From Figure 10.7, recall that, if B is the unknownvariable, it can be computed by using the following formula:             Goal Value / AxCxD = BIn this case:      376.5 / (1.00-0.36)x$16.95x[1.00-(0.25+0.36)] = BThus:                             89 = BAccording to the formula, 89 servings of strip steak would have to be sold toachieve Maureen’s target goal value. Again, goal value analysis is a very useful es-timation tool for management. You can use it to establish a desired food cost percentage,target popularity figure, selling price, or variable cost percentage.Goal value analysis is also powerful because it is not, as is matrix analysis, dependenton past performance to establish profitability but can be used by managementto establish future menu targets. To explain, assume, for a moment, that Maureenwishes to achieve a greater profit margin and a $17.00 entrée average sellingprice for next year. She plans to achieve this through a reduction in her overall foodcost to 33% and her other variable costs to 29%. Her overall menu goal value formulafor next year, assuming no reduction or increase in guest count, would be asfollows:____________________________________________________________________________A             x B x C x D                             = Goal Value(1.00 - 0.33) x 100 x $17.00 x [1.00 - (0.29 + 0.33)] = Goal Valueor0.67          x 100 x $17.00 x 0.38                   = 432.8____________________________________________________________________________

Thus, each item on next year’s menu should be evaluated with the new goalvalue in mind. It is important to remember, however, that Maureen’s actual profitabilitywill be heavily influenced by sales mix. Thus, all pricing, portion size, andmenu placement decisions become critical. Note that Maureen can examine eachof her menu items and determine whether she wishes to change any of the item’scharacteristics to meet her goals. It is at this point that she must remember that sheis a foodservice operator and not merely an accountant. A purely quantitative approachto menu analysis is neither practical nor desirable. Menu analysis and pricingdecisions are always a matter of experience, skill, and educated predicting becauseit is difficult to know in advance how changing any one menu item may affectthe sales mix of the remaining items.COST/VOLUME/PROFIT ANALYSISEach foodservice operator knows that some accounting periods are more profitablethan others. Often, this is because sales volume is higher or costs are lower duringcertain periods. The ski resort that experiences tremendous sales during the ski seasonbut has a greatly reduced volume or may even close during the summer seasonis a good example. Profitability, then, can be viewed as existing on a graph similarto Figure 10.8.FIGURE 10.8 Cost/Volume/Profit GraphIMAGE(https://etravelweek.com/hmattachments/26_200911050200052ShON.gif)The x axis represents the number of covers sold in a foodservice operation. They axis represents the costs/revenues in dollars. The Total Revenues line starts atzero because if no covers are sold, no dollars are generated. The Total Costs linestarts farther up the y axis because fixed costs are incurred even if no covers aresold. The point at which the two lines cross is called the break-even point. At thebreak-even point, operational expenses are exactly equal to sales revenue.

Thus, each item on next year’s menu should be evaluated with the new goalvalue in mind. It is important to remember, however, that Maureen’s actual profitabilitywill be heavily influenced by sales mix. Thus, all pricing, portion size, andmenu placement decisions become critical. Note that Maureen can examine eachof her menu items and determine whether she wishes to change any of the item’scharacteristics to meet her goals. It is at this point that she must remember that sheis a foodservice operator and not merely an accountant. A purely quantitative approachto menu analysis is neither practical nor desirable. Menu analysis and pricingdecisions are always a matter of experience, skill, and educated predicting becauseit is difficult to know in advance how changing any one menu item may affectthe sales mix of the remaining items.COST/VOLUME/PROFIT ANALYSISEach foodservice operator knows that some accounting periods are more profitablethan others. Often, this is because sales volume is higher or costs are lower duringcertain periods. The ski resort that experiences tremendous sales during the ski seasonbut has a greatly reduced volume or may even close during the summer seasonis a good example. Profitability, then, can be viewed as existing on a graph similarto Figure 10.8.FIGURE 10.8 Cost/Volume/Profit GraphIMAGE(https://etravelweek.com/hmattachments/26_200911050200052ShON.gif)The x axis represents the number of covers sold in a foodservice operation. They axis represents the costs/revenues in dollars. The Total Revenues line starts atzero because if no covers are sold, no dollars are generated. The Total Costs linestarts farther up the y axis because fixed costs are incurred even if no covers aresold. The point at which the two lines cross is called the break-even point. At thebreak-even point, operational expenses are exactly equal to sales revenue.

Stated in another way, when sales volume in your operation equals the sum of your totalvariable and fixed costs, your break-even point has been reached. Below the breakevenpoint, costs are higher than revenues, so losses occur. Above the break-evenpoint, revenues exceed costs, so profits are made. Most operators would like toknow their break-even point on a daily, weekly, or monthly basis. In effect, by determiningthe break-even point, the operator is answering the question: “How muchsales volume must I generate before I begin to make a profit?”Beyond the break-even point, you will want to answer another question: “Howmuch sales dollars and volume must I generate to make my desired profit level?”To answer this question, you must conduct a cost/volume/profit (CVP) analysis. ACVP analysis helps predict the sales dollars and volume required to achieve desiredprofit (or break even) based on your known costs.The answer to these questions may be found either by constructing a CVP graphor by arithmetical calculation. While there are advantages to both methods, thearithmetical calculation is typically the most accurate. CVP calculations can be doneeither on the dollar sales volume required to break even or achieve the desired profit,or on the basis of the number of guests (covers) required.Consider the case of Jennifer, who operates an Asian restaurant in a suburbannorthwestern city. Based on her income statement and sales records of last month,Jennifer has converted her P&L statement to a contribution margin income statement,as shown in Figure 10.9. A contribution margin income statement simply shows P&Litems in terms of sales, variable costs, contribution margin, fixed costs, and profit.As discussed before, foodservice expenses can generally be classified aseither fixed or variable. Of course, some expenses have both a fixed and a variableFIGURE 10.9 Contribution Margin Income Statement_____________________________________________________________________________Jennifer’s_____________________________________________________________________________Total Sales                $125,000           Sales per Guest          $12.50Variable Costs               50,000           Guests Served            10,000Contribution Margin          75,000Fixed Costs                  60,000Before-Tax Profit            15,000Taxes (40%)                   6,000After-Tax Profit              9,000_____________________________________________________________________________component and, thus in reality, are mixed. For the purpose of engaging in a CVPanalysis, however, it is necessary for the operator to assign costs to either a fixedor a variable category, as Jennifer has done. In addition, the contribution marginfor her overall operation is defined as the dollar amount that contributes to coveringfixed costs and providing for a profit. Contribution margin is calculated forJennifer’s as follows:       Total Sales - Variable Costs = Contribution Margin                   or                 $125,000 - $50,000 = $75,000Jennifer can also view her contribution margin income statement in terms ofper-unit (guest) and percentage sales, variable costs, and contribution margin, asshown in Figure 10.10.

Notice the dark box in Figure 10.10 that includes per unit (guest) and percentagecalculations for sales per guest (selling price, SP), variable costs (VC), and contributionmargin (CM). Note also that fixed costs are not calculated as per unit or as a percentageof sales. This is because fixed costs do not vary with sales volume increases.To calculate these numbers, the following steps apply:Step 1. Divide total sales, variable costs, and contribution margin by the numberof guests served (units) to get per-unit (guest) values:SP/Unit = $125,000/10,000 Units = $12.50VC/Unit = $50,000/10,000 Units = $ 5.00CM/Unit 5 = $75,000/10,000 Units = $ 7.50SP/Unit - VC/Unit = CM/Unit$12.50 - $5.00 = $7.50FIGURE 10.10 Contribution Margin Income Statement with per-Unit andPercentage CalculationsIMAGE(https://etravelweek.com/hmattachments/26_200911050200053E9Ng.gif)Step 2. Divide VC/Unit by SP/Unit, and CM/Unit by SP/Unit to get percentagevalues:SP% = 100%VC% = $5.00/$12.50 = 40%CM% = $7.50/$12.50 = 60%SP% - VC% = CM%100% - 40% = 60%Once Jennifer’s P&L statement has been converted to a contribution marginincome statement and per-unit values and percentages have been calculated, she canproceed to determine her operational break-even point and sales required to achieveher desired profit. She wants to do this based both on dollar sales and on the numberof guests (units) required to do so.To determine the dollar sales required to break even, Jennifer uses the followingformula:      Fixed Costs / Contribution Margin % = Break-Even Point in Sales                                          or                           $60,000 / 0.60 = $100,000Thus, Jennifer must generate $100,000 in sales per month before she begins tomake a profit. At a sales volume of less than $100,000, she would be operating ata loss. In terms of the number of guests that must be served to break even, Jenniferuses the following formula:      Fixed Costs / Contribution Margin per Unit (Guest)    = Break-Even Point in Guests Served    or      $60,000 / $7.50 = 8,000 Guests (Covers)

Stated in another way, when sales volume in your operation equals the sum of your totalvariable and fixed costs, your break-even point has been reached. Below the breakevenpoint, costs are higher than revenues, so losses occur. Above the break-evenpoint, revenues exceed costs, so profits are made. Most operators would like toknow their break-even point on a daily, weekly, or monthly basis. In effect, by determiningthe break-even point, the operator is answering the question: “How muchsales volume must I generate before I begin to make a profit?”Beyond the break-even point, you will want to answer another question: “Howmuch sales dollars and volume must I generate to make my desired profit level?”To answer this question, you must conduct a cost/volume/profit (CVP) analysis. ACVP analysis helps predict the sales dollars and volume required to achieve desiredprofit (or break even) based on your known costs.The answer to these questions may be found either by constructing a CVP graphor by arithmetical calculation. While there are advantages to both methods, thearithmetical calculation is typically the most accurate. CVP calculations can be doneeither on the dollar sales volume required to break even or achieve the desired profit,or on the basis of the number of guests (covers) required.Consider the case of Jennifer, who operates an Asian restaurant in a suburbannorthwestern city. Based on her income statement and sales records of last month,Jennifer has converted her P&L statement to a contribution margin income statement,as shown in Figure 10.9. A contribution margin income statement simply shows P&Litems in terms of sales, variable costs, contribution margin, fixed costs, and profit.As discussed before, foodservice expenses can generally be classified aseither fixed or variable. Of course, some expenses have both a fixed and a variableFIGURE 10.9 Contribution Margin Income Statement_____________________________________________________________________________Jennifer’s_____________________________________________________________________________Total Sales                $125,000           Sales per Guest          $12.50Variable Costs               50,000           Guests Served            10,000Contribution Margin          75,000Fixed Costs                  60,000Before-Tax Profit            15,000Taxes (40%)                   6,000After-Tax Profit              9,000_____________________________________________________________________________component and, thus in reality, are mixed. For the purpose of engaging in a CVPanalysis, however, it is necessary for the operator to assign costs to either a fixedor a variable category, as Jennifer has done. In addition, the contribution marginfor her overall operation is defined as the dollar amount that contributes to coveringfixed costs and providing for a profit. Contribution margin is calculated forJennifer’s as follows:       Total Sales - Variable Costs = Contribution Margin                   or                 $125,000 - $50,000 = $75,000Jennifer can also view her contribution margin income statement in terms ofper-unit (guest) and percentage sales, variable costs, and contribution margin, asshown in Figure 10.10.

Notice the dark box in Figure 10.10 that includes per unit (guest) and percentagecalculations for sales per guest (selling price, SP), variable costs (VC), and contributionmargin (CM). Note also that fixed costs are not calculated as per unit or as a percentageof sales. This is because fixed costs do not vary with sales volume increases.To calculate these numbers, the following steps apply:Step 1. Divide total sales, variable costs, and contribution margin by the numberof guests served (units) to get per-unit (guest) values:SP/Unit = $125,000/10,000 Units = $12.50VC/Unit = $50,000/10,000 Units = $ 5.00CM/Unit 5 = $75,000/10,000 Units = $ 7.50SP/Unit - VC/Unit = CM/Unit$12.50 - $5.00 = $7.50FIGURE 10.10 Contribution Margin Income Statement with per-Unit andPercentage CalculationsIMAGE(https://etravelweek.com/hmattachments/26_200911050200053E9Ng.gif)Step 2. Divide VC/Unit by SP/Unit, and CM/Unit by SP/Unit to get percentagevalues:SP% = 100%VC% = $5.00/$12.50 = 40%CM% = $7.50/$12.50 = 60%SP% - VC% = CM%100% - 40% = 60%Once Jennifer’s P&L statement has been converted to a contribution marginincome statement and per-unit values and percentages have been calculated, she canproceed to determine her operational break-even point and sales required to achieveher desired profit. She wants to do this based both on dollar sales and on the numberof guests (units) required to do so.To determine the dollar sales required to break even, Jennifer uses the followingformula:      Fixed Costs / Contribution Margin % = Break-Even Point in Sales                                          or                           $60,000 / 0.60 = $100,000Thus, Jennifer must generate $100,000 in sales per month before she begins tomake a profit. At a sales volume of less than $100,000, she would be operating ata loss. In terms of the number of guests that must be served to break even, Jenniferuses the following formula:      Fixed Costs / Contribution Margin per Unit (Guest)    = Break-Even Point in Guests Served    or      $60,000 / $7.50 = 8,000 Guests (Covers)

Now, assume that Jennifer has decided that next month she will plan for$12,000 in after-tax profits. To determine sales dollars and covers to achieve herafter-tax profit goal, Jennifer uses the following formula:      Fixed Costs + Before-Tax Profit / Contribution Margin %    = Sales Dollars to Achieve Desired After-Tax ProfitJennifer knows that her after-tax-profit goal is $12,000, but the preceding formulacalls for before-tax profit. To convert her after-tax profit to before-tax profit,Jennifer must compute the following:      After-Tax Profit / 1-Tax Rate = Before-Tax Profit                       or               $12,000 / 1-0.40 = $20,000Now that Jennifer knows her before-tax profit of $20,000, she can calculateher sales dollars to achieve her desired after-tax profit as follows:      Fixed Costs+Before-Tax Profit / Contribution Margin %    = Sales Dollars to Achieve Desired After-Tax Profit    or      $60,000+$20,000 / 0.60 = $133,333.33Thus, Jennifer must generate $133,333.33 in sales per month to achieveher desired after-tax profit of $12,000. In terms of calculating the number of gueststhat must be served to make her profit, Jennifer uses the following formula:      Fixed Costs+Before-Tax Profit / Contribution Margin per Unit (Guest)    = Guests to Be Served to Achieve Desired After-Tax Profit    or     $60,000+$20,000 / $7.50     = 10,666.67 Guests (Covers), Round up to 10,667 GuestsWhen calculating sales and covers to achieve break-even and desired aftertaxprofits, you can easily remember which formulas to use if you know thefollowing:1. Contribution margin % is used to calculate sales dollars.2. Contribution margin per unit is used to calculate sales volume in units(guests).Once you fully understand the CVP analysis concepts, you can predict any saleslevel for break-even or after-tax profits based on your selling price, fixed costs, variablecosts, and contribution margin. You can also make changes in your sellingprices and costs to improve your ability to break even and achieve desired profitlevels. This is where menu pricing and cost control concepts covered in this textcome into play. As you make changes in your control areas, you will be able tomanage your operation efficiently so that losses can be prevented and planned profitscan be achieved.LINKING COST/VOLUME/PROFIT ANALYSISWITH GOAL VALUE ANALYSISCost/volume/profit analysis is used to establish targets for the entire operation,whereas goal value analysis evaluates individual menu items against those operationaltargets. Goal value analysis is based on the operational goals in terms of foodcost, other variable costs, selling price, and number of covers. If, for example, thecost/volume/profit analysis suggests that covers needed to generate desired profitswill not likely be achieved, costs should be evaluated. If food and labor costs arereduced to generate a more reasonable sales figure in cost/volume/profit analysis byincreasing contribution margin, then those changes affect the desired food and variablecosts in goal value analysis. In addition, desired selling price (check average)and number of covers in goal value analysis should be set based on results fromcost/volume/profit analysis. Therefore, the two analyses can be strategically linked,as follows:

PROFIT ANALYSISAs business conditions change, changes in the budget are to be expected. This isbecause budgets are based on a specific set of assumptions; as these assumptionschange, so does the budget that follows from the assumptions. Assume, for example,that you budgeted $1,000 in January for snow removal from the parkinglot attached to the restaurant you own in New York State. If unusually severeweather causes you to spend $2,000 for snow removal in January instead,the assumption (normal levels of snowfall) was incorrect and the budget will beincorrect as well.Budgeted profit must be realized if the operation is to provide adequate returnsfor owner and investor risk. Consider the case of James, the operator ofa foodservice establishment with excellent sales but below-budgeted profits.James budgeted a 5% profit on $2,000,000 of sales; thus, $100,000 profit($2,000,000 x 0.05 = $100,000) was anticipated. In reality, at year’s end, Jamesachieved only $50,000 profit, or 2.5% of sales ($50,000/$2,000,000 = 2.5%).If the operation’s owners feel that $50,000 is an adequate return for their risk,James’ services may be retained. If they do not, he may lose his position, eventhough the operation is profitable. Remember that your goal is not merely togenerate a profit, but rather to generate budgeted profit. You will be rewardedwhen you meet this goal. A primary goal of management is to generate the profitsnecessary for the successful continuation of the business. Budgeting for theseprofits is a fundamental step in the process. Analyzing the success of achievingbudget forecasts is of tremendous managerial concern. If profit goals are to bemet, safeguarding your operational revenue is critical. It is to that task that weturn our attention in the next article. The proper collection and accounting forguest payment of services is one of the final steps in a successful food and beveragecost control system.Technology ToolsThis article introduced the concepts of conducting individual menu item analysis and identifyinga break-even point for your operation. When this break-even point is known, an effective operationalbudget can be produced. The article concluded with a discussion of the importance of developingand monitoring a budget. While menu analysis software is often packaged as part of alarger program and is somewhat limited, the software required to do an overall break-even analysisis readily available, as well as that required for budgeting. Specialized software in this area isavailable to help you:1. Evaluate item profitability based on:a. Food cost percentageb. Popularityc. Contribution margind. Selling price2. Conduct menu matrix analysis.3. Perform break-even analysis.4. Budget revenue and expense levels.5. Budget profit levels.6. Assemble budgets based on days, weeks, months, years, or other identifiable accountingperiods.7. Conduct performance to budget analysis.8. Maintain performance to budget histories.

To examine how prior-period operating results, assumptions of next-period operations,and goals drive the budgeting process, we will consider the case of Levi, whois preparing the annual foodservice budget for his 100-bed extended-care facility.PRIOR-PERIOD OPERATING RESULTSLevi’s facility serves patient meals to an average occupancy of 80%, and he servesapproximately 300 additional meals per day to staff and visitors. His departmentis allotted a flat dollar amount by the facility’s administration for each meal heserves. His operating results for last year are detailed in Figure 10.12. Patient andadditional meals served were determined by actual count. Revenue and expense figureswere taken from Levi’s income (P&L) statements at the year’s end. It is importantto note that Levi must have this information if he is to do any meaningfulprofit planning. Foodservice unit managers who do not have access to their operatingresults are at a tremendous managerial disadvantage. Levi has his operationalsummaries and the data that produced them. Because he knows how he has operatedin the past, he is now ready to proceed to the assumptions section of the planningprocess.FIGURE 10.12 Levi’s Last-Year Operating ResultsIMAGE(https://etravelweek.com/hmattachments/26_200911050200056EIj3.gif)ASSUMPTIONS OF NEXT-PERIOD OPERATIONSIf Levi is to prepare a budget with enough strength to serve as a guide and enoughflexibility to adapt to a changing environment, he must factor in the assumptionshe and others feel will affect the operation. While each management team will arriveat its own conclusions given the circumstances of the operation, in this example,Levi makes the following assumptions regarding next year:1. Food costs will increase by 3%.2. Labor costs will increase by 5%.3. Other expenses will rise by 10% due to a significant increase in utilitycosts.4. Revenue received for all meals served will be increased by no morethan 1%.5. Patient occupancy of 80% of facility capacity will remain unchanged.

Levi would be able to establish these assumptions through discussions with hissuppliers and union leaders, his own records, and, most important, his sense of theoperation itself. In the commercial sector, when arriving at assumptions, operatorsmust also consider new or diminished competition, changes in traffic patterns, andnational food trends. At the highest level of foodservice management, assumptionsregarding the acquisition of new units or the introduction of new products will certainlyaffect the budget process. As an operator, Levi predicts items 1, 2, and 3 byhimself, while his supervisor has given him input about items 4 and 5. Given theseassumptions, Levi can establish operating goals for next year.ESTABLISHING OPERATING GOALSGiven the assumptions he has made, Levi can now determine actual operating goalsfor the coming year. He will establish them for each of the following areas:1. Meals served2. Revenue3. Food costs4. Labor costs5. Other expenses6. ProfitMEALS SERVEDGiven the assumption of no increase in patient occupancy, and in light of his resultsfrom last year, Levi budgets to prepare and serve 29,200 patient meals. Hefeels, however, that he can increase his visitor and staff meals somewhat by be-ing more customer-service driven and by offering a wider selection of items onthe facility’s cycle menu. He decides, therefore, to raise his goal for additionalmeals from the 109,528 served last year to 115,000 for the coming year. Thus,his budgeted total meals to be served will equal 144,200 meals (29,200 +115,000 = 144,200).REVENUELevi knows that his total revenue is to increase by only 1%. His revenue per mealwill thus be $3.46 x 1.01 = $3.49. With 144,200 meals to be served, Levi will receive$503,258 (144,200 x $3.49 = $503,258) if he meets his meals-served budget.FOOD COSTSSince Levi is planning to serve more meals, he expects to spend more on food. Inaddition, he assumes that this food will cost, on average, 3% more than last year.To determine a food budget, Levi computes the estimated food cost for 144,200meals as follows:1. Last year’s Food Cost per Meal = Last Year’s Cost of Food/TotalMeals Served = $192,000/138,728 = $1.382. Last Year’s Food Cost per Meal + 3% Estimated Increase in FoodCost = $1.38 x 1.03 = $1.42 per Meal3. $1.42 x 144,200 Meals to be Served this Year * $204,764 EstimatedCost of Food this Year

LABOR COSTSSince Levi is planning to serve more meals, he expects to spend more on labor cost.In addition, he assumes that this labor will cost, on average, 5% more than lastyear. To determine a labor budget, Levi computes the estimated labor cost for144,200 meals to be served as follows:1. Last Year’s Labor Cost per Meal = Last Year’s Cost of Labor/TotalMeals Served = $153,600/138,728 = $1.11 per Meal2. Last Year’s Labor Cost per Meal + 5% Estimated Increase in LaborCost = $1.11 x 1.05 = $1.17 per Meal3. $1.17 x 144,200 Meals to be Served this Year = $168,714 EstimatedCost of Labor this YearOTHER EXPENSESSince Levi assumes a 10% increase in other expenses, they are budgeted as lastyear’s amount plus an increase of 10%. Thus, $86,400 x 1.10 = $95,040.Based on his assumptions about next year, Figure 10.13 details Levi’s budgetsummary for the coming 12 months.FIGURE 10.13 Levi’s Budget for Next YearIMAGE(https://etravelweek.com/hmattachments/26_200911050200057gJS9.gif)PROFITNote that the increased costs Levi will be forced to bear, when coupled with hisminimal revenue increase, will cause his profit to fall from $48,000 for last year toa projected $34,740 for the coming year. If this is not acceptable, Levi must eitherincrease his revenue beyond his assumption or look to his operation to reduce costs.Levi has now developed concrete guidelines for his operation. Since his supervisorapproves his budget as submitted, Levi is now ready to implement and monitorthis new budget.

MONITORING THE BUDGETAn operational plan has little value if management does not use it. In general, thebudget should be monitored in each of the following three areas:1. Revenue2. Expense3. ProfitREVENUE ANALYSISIf revenue should fall below projected levels, the impact on profit can be substantial.Simply put, if revenues fall far short of projections, it will be difficult for youto meet your profit goals. If revenue consistently exceeds your projections, the over-all budget must be modified or the expenses associated with these increased saleswill soon exceed budgeted amounts. Effective managers compare their actual revenueto that which they have projected on a regular basis.It is clear that increases in operational revenue should dictate proportional increasesin variable expense budgets, although fixed expenses, of course, need not beadjusted for these increases. For those foodservice operations with more than onemeal period, monitoring budgeted sales volume may mean monitoring each meal period.Consider the case of Rosa, the night (p.m.) manager of a college cafeteria. Shefeels that she is busier than ever, but her boss, Lois, maintains that there can be noincrease in Rosa’s labor budget since the overall cafeteria sales volume is exactly inline with budgeted projections. Figure 10.14 shows the complete story of the salesvolume situation at the college cafeteria after the first six months of the fiscal year.Note that the year is half (or 50%) completed at the time of this analysis.FIGURE 10.14 College Cafeteria Revenue Budget SummaryIMAGE(https://etravelweek.com/hmattachments/26_200911050200058w8pd.gif)Based on the sales volume she generates, Rosa should have an increase in her laborbudget for the p.m. meal period. The amount of business she is generating in theevenings is substantially higher than budgeted. Note that she is one-half way throughher budget year, but has already generated 71% of the annual revenue forecasted bythe budget. This, however, does not mean that the labor budget for the entire cafeteriashould be increased. In fact, the labor budget for the a.m. shift should likely be reduced,as those dollars are more appropriately needed in the evening meal period.Some foodservice operators relate revenue to the number of seats they haveavailable in their operation. As a result, they sometimes budget based on sales perseat, the total revenue generated by a facility divided by the number of seats in thedining area(s). Since the size of a foodservice facility affects both total investmentand operating costs, this can be a useful number. The formula for the computationof sales per seat is as follows:      Total Sales / Available Seats = Sales per Seat

To illustrate this, assume that, if Rosa’s cafeteria has 120 seats, her p.m. salesper seat thus far this year would be as follows:       $248,677 / 120 = $2,072.31The a.m. sales per seat, given the same number of seats, would be computed asfollows:      $166,698 / 120 = $1,389.15As can be seen, Rosa’s sales per seat are much higher than that of her a.m.counterpart. Of course, part of that may be due to the fact that evening menu itemsin the cafeteria may sell for more, on average, than do breakfast items.When sales volume is lower than originally projected, management must seekways to increase revenue or reduce costs. As stated earlier, one of management’smain tasks is to generate guests, while the employee’s main task is to service theseguests to the best of his or her ability. There are a variety of methods used for increasingsales volume, including the use of coupons, increased advertising, price discounting,and specials. For the serious foodservice manager, a thorough study ofthe modern techniques of foodservice marketing is mandatory if you are to be readyto meet all the challenges you may face.EXPENSE ANALYSISEffective foodservice managers are careful to monitor operational expense becausecosts that are too high or too low may be cause for concern. Just as it is not possibleto estimate future sales volume perfectly, it is also not possible to estimate futureexpense perfectly, since some expenses will vary as sales volume increases ordecreases. To know that an operation spent $800 for fruits and vegetables in agiven week becomes meaningful only if we know what the sales volume for thatweek was. Similarly, knowing that $500 was spent for labor during a given lunchperiod can be analyzed only in terms of the amount of sales achieved in that sameperiod. To help them make an expense assessment quickly, some operators elect toutilize the yardstick method of calculating expense standards so determinations canbe made as to whether variations in expenses are due to changes in sales volumeor other reasons such as waste or theft.To illustrate the yardstick method, consider the case of Marion, who operatesa college cafeteria during nine months of the year in a small southeastern city. Marionhas developed both revenue and expense budgets. His problem, however, is thatvariations in revenue cause variations in expense. This is true in terms of food products,labor, and other expenses. As a truly effective manager, he wishes to knowwhether changes in his actual expenses are due to inefficiencies in his operation orto normal sales variation. To begin his analysis, Marion establishes a purchase standardfor food products using a seven-step model.Developing Yardstick Standards for FoodStep 1. Divide total inventory into management-designated subgroups, for example,meats, produce, dairy, and groceries.Step 2. Establish dollar value of subgroup purchases for prior accounting period.Step 3. Establish sales volume for the prior accounting period.Step 4. Determine percentage of purchasing dollar spent for each foodcategory.Step 5. Determine percentage of revenue dollar spent for each food category.Step 6. Develop weekly sales volume and associated expense projection. Compute% cost to sales for each food grouping and sales estimate.Step 7. Compare weekly revenue and expense to projection. Correct if necessary.To develop his yardstick standards for food, Marion collects data from lastyear as shown in Figure 10.15.

Assuming that Marion has created a revenue estimate of $52,000 per monthfor this year and that he was satisfied with both last year’s food cost percentageand profits, he can now follow the steps outlined previously to establish his yardstickstandards for food. Marion estimates a weekly sales volume of $52,000/4, or$13,000, for this year.Marion’s Yardstick Standards for FoodStep 1. MeatsFish/PoultryProduceDairyGroceriesStep 2. Meats  $ 66,600Fish/Poultry     36,500Produce          26,500Dairy            20,000Groceries        18,300Total           167,900FIGURE 10.15 Marion’s College Cafeteria Food Data_______________________________________________________________                                    Last School Year (9 Months)Total Sales: $450,000           Average Sales per Month: $50,000PurchasesMeats                $ 66,600Fish/Poultry           36,500Produce                26,500Dairy                  20,000Groceries              18,300Total                 167,900_______________________________________________________________Step 3. $450,000 total revenue in prior period (9 months)Step 4. Meats         $ 66,600/167,900 = 39.7%        Fish/Poultry    36,500/167,900 = 21.7        Produce         26,500/167,900 = 15.8        Dairy           20,000/167,900 = 11.9        Groceries       18,300/167,900 = 10.9        Total                = 167,900 = 100.0Step 5. Meats         $ 66,600/450,000 = 14.8%        Fish/Poultry    36,500/450,000 = 8.1        Produce         26,500/450,000 = 5.9        Dairy           20,000/450,000 = 4.4        Groceries       18,300/450,000 = 4.1        Total                = 167,900 = 37.3%Step 6.IMAGE(https://etravelweek.com/hmattachments/26_2009110502000511gpjD.gif)

Note that, to compute the data for Step 6, you must multiply % cost to totalsales by the weekly sales estimate. When using the sales estimate of $13,000 for aweek, for example, the meat budget would be computed as follows:             0.148 x $13,000 = $1,924Fish/poultry would be computed as follows:             0.081 x $13,000 = $1,053Step 7. AnalysisMarion can now compare his budgeted expense with actual performance overseveral volume levels. In a week in which sales volume equals $14,000, for example,Marion would expect that total meat used for that period, according to hisyardstick measure, would equal approximately $2,072 ($14,000 x 14.8% =$2,072). If his usage exceeds $2,072 for the period, he would know exactly whereto direct his attention. Using the yardstick system, Marion can easily monitor anyexpense over any number of differing volume levels. The yardstick method of purchaseestimation is especially helpful for those operations that experience great variationin sales volume. A hotel that has a slow season and a busy season, for instance,will find that the use of this method is quite helpful in estimating the moneyneeded for inventory acquisition.DEVELOPING YARDSTICK STANDARDS FOR LABORJust as Marion used the yardstick method to estimate food expense at varying salesvolume levels, he can also use it to estimate labor cost expenditures at those variouslevels. To develop a labor yardstick, he follows these steps:Step 1. Divide total labor cost into management-designated subgroups, for example,cooks, warewashers, and bartenders.Step 2. Establish dollar value spent for each subgroup during the prior accountingperiod.Step 3. Establish sales volume for the prior accounting period.Step 4. Determine percentage of labor dollar spent for each subgroup.Step 5. Determine percentage of revenue dollar spent for each labor category.Step 6. Develop weekly sales volume and associated expense projection. Compute% cost to sales for each labor category and sales estimate.Step 7. Compare weekly revenue and expense to projection. Correct if necessary.Marion collected labor-related data from last year’s operation as shown inFigure 10.16.FIGURE 10.16 Marion’s College Cafeteria Labor Data______________________________________________________________                                   Last School Year (9 Months)Total Sales: $450,000         Average Sales per Month: $50,000Labor CostsManagement           $ 40,000Food Production        65,000Service                12,000Sanitation             18,000Total                 135,000______________________________________________________________It is important to note that Marion can develop a labor yardstick based onguests served, labor hours worked, or, as is his preference, labor cost percentage.To develop the labor standard based on labor cost percentage, Marion follows theseven-step process outlined below.

Marion’s Yardstick Standards for LaborStep 1. ManagementFood ProductionServiceSanitationStep 2. Management $ 40,000Food Production      65,000Service              12,000Sanitation           18,000Total               135,000Step 3. $450,000 total revenue in prior period (9 months)Step 4. Management       $ 40,000/135,000 = 29.6%Food Production            65,000/135,000 = 48.2Service                    12,000/135,000 = 8.9Sanitation                 18,000/135,000 = 13.3Total                           = 135,000 = 100.0%Step 5. Management       $ 40,000/450,000 = 8.9%Food Production            65,000/450,000 = 14.4Service                    12,000/450,000 = 2.7Sanitation                 18,000/450,000 = 4.0Total                           = 135,000 = 30.0%Step 6.IMAGE(https://etravelweek.com/hmattachments/26_2009110502000512xfSL.gif)Note that, to compute the data for Step 6, Marion must multiply % cost to totalsales by his weekly sales estimate. Using the sales estimate of $13,000, for example,the management portion of the budget would be computed as follows:                 0.089 x $13,000 = $1,157The food production cost expense estimate, based on the same weekly sales, wouldbe computed as follows:                 0.144 x $13,000 = $1,872Step 7. AnalysisIt is now easy for Marion to identify exactly where his labor variations, if any, areto be found.The yardstick method may, of course, be used for any operational expense, beit food, labor, or one of the many other expenses you will incur. In all cases, however,you must monitor your actual expenditures as they relate to budgeted expenditures,while keeping changes in sales volume in mind.

_____________________________________________________________________________Cost/Volume/Profit Analysis               Goal Value AnalysisFood cost % from contribution             Food cost % goalmargin income statementGuests served to achieve desired          Total average number of covers perafter-tax profit                          menu item goalSelling price                             Selling price goalLabor and other variable cost %           Variable cost % goalfrom contribution margin incomestatement_____________________________________________________________________________Consider Priscilla’s Mexican Restaurant in a major metropolitan area in northTexas. Priscilla has a 250-seat restaurant that averages 21/2 turns per night. She hascalculated cost/volume/profit analysis and goal value analysis for the month of June(30 days). Figure 10.11 shows how her cost/volume/profit analysis links with hergoal value analysis. The following table shows the specific links between Priscilla’stwo analyses (see also bolded numbers in Figure 10.11).______________________________________________________________________________Cost/Volume/Profit      Priscilla’s         Goal Value           Priscilla’sAnalysis                CVP                  Analysis             GV______________________________________________________________________________Food cost % from           32%               Food cost               32%contribution margin                          % goalincome statement______________________________________________________________________________Guests served to        18,334/30 days       Total average        611/7 menuachieve desired         611/7 menu items     number of            items = 87after-tax profit                             covers per                                             menu item goal______________________________________________________________________________Selling price              $15.00            Selling price goal     $15.00______________________________________________________________________________Labor and other             28%              Variable cost % goal     28%variable cost % from                      contribution marginincome statement______________________________________________________________________________By looking at these two analyses, you can learn how the overall goals of theoperation affect menu item profitability. Conversely, you can see how changes youmake to menu items affect the overall profitability of the operation.Information in this section was obtained from Dopson, L. (2004). Linking Cost-Volume-Profit Analysis with Goal Value Analysis in the Curriculum Using SpreadsheetApplications. The Journal of Hospitality Financial Management (12)1, 77–80.

FIGURE 10.11 Linking Cost/Volume/Profit with Goal Value AnalysisIMAGE(https://etravelweek.com/hmattachments/26_200911050200054rV5R.gif)(To be continued.)

IMAGE(https://etravelweek.com/hmattachments/26_2009110502000555zyq.gif)(continued.)MINIMUM SALES POINTEvery foodservice operator should know his or her break-even point. The conceptof minimum sales point is related to this area. Minimum sales point (MSP) is thedollar sales volume required to justify staying open for a given period of time. Theinformation necessary to compute MSP is as follows:1. Food cost %2. Minimum payroll cost for the time period3. Variable cost %

Fixed costs are eliminated from the calculation because, even if the volume ofsales equals zero, fixed costs still exist and must be paid. Consider the situationof Richard, who is trying to determine whether he should close his steakhouse at10:00 p.m. or 11:00 p.m. Richard wishes to compute the sales volume necessaryto justify staying open the additional hour. He can make this calculation becausehe knows that his food cost equals 40%, his minimum labor cost to stay open forthe extra hour equals $150, and his variable costs (taken from his P&L statement)equal 30%. In calculating MSP, his Food Cost % + Variable Cost % is called hisminimum operating cost. Richard applies the MSP formula as follows:      Minimum Labor Cost / 1-Minimum Operating Cost = MSP                         or      Minimum Labor Cost / 1-(Food Cost % + Variable Cost %) = MSPIn this case, the computation would be as follows:      $150 / 1-(0.40+0.30) = MSP      $150 / 1-0.70        = MSP    or      $150 /0.30    thus      $500 = MSPIf Richard can achieve a sales volume of $500 in the 10:00 p.m. to 11:00 p.m.time period, he should stay open. If this level of sales is not feasible, he should considerclosing the operation at 10:00 p.m. Richard can use MSP to determine thehours his operation is most profitable. Of course, some operators may not have theauthority to close the operation, even when remaining open is not particularly profitable.Corporate policy, contractual hours, promotion of a new unit, competition,and other factors must all be taken into account before the decision is made tomodify operational hours.THE BUDGETIn most managerial settings, you will be responsible for preparing and maintaininga budget for your foodservice operation. This budget, or financial plan, will detailthe operational direction of your unit and your expected financial results. The techniquesused in managerial accounting will show you how close your actual performancewas when compared to your budget, while providing you with the informationyou need to make changes to your operational procedures or budget.This will ensure that your operation achieves the goals of your financial plan. It isimportant to note that the budget should not be a static document. It should bemodified and fine-tuned as managerial accounting presents data about sales andcosts that affect the direction of the overall operation.For example, if you own a dance club featuring Latin music, and you find thata major competitor in your city has closed its doors, you may quite logically determinethat you want to revise upward your estimate of the number of guests whowill come to your club. This would, of course, affect your projected sales revenue,your costs, and your profitability. Not to do so might allow you to meet and exceedyour original sales goals but would ignore a significant event that very likelywill affect your financial plan for the club.

In a similar manner, if you are the manager of a delicatessen specializing in salads,sliced meats, and related items, and you find through your purchase ordersthat the price you pay for corned beef has tripled since last month, you must adjustyour budget or you will find that you have no chance of staying within yourfood cost guidelines. Again, the point is that the foodservice budget should be closelymonitored through the use of managerial accounting, which includes the thoughtfulanalysis of the data this type of accounting provides.Just as the P&L tells you about your past performance, the budget is developedto help you achieve your future goals. In effect, the budget tells you whatmust be done if predetermined profit and cost objectives are to be met. In this respect,you are attempting to modify the profit formula, as presented before.With a well-thought-out and attainable budget, your profit formula would read asfollows:      Budgeted Revenue - Budgeted Expense = Budgeted ProfitTo prepare the budget and stay within it assures you predetermined profit levels.Without such a plan, you must guess about how much to spend and how muchsales you should anticipate. The effective foodservice operator builds his or herbudget, monitors it closely, modifies it when necessary, and achieves the desired results.Yet, many operators do not develop a budget. Some say that the process istoo time consuming. Others feel that a budget, especially one shared with the entireorganization, is too revealing. Budgeting can also cause conflicts. This is true,for example, when dollars budgeted for new equipment must be used for either anew kitchen stove or a new beer-tapping system. Obviously, the kitchen managerand the beverage manager may hold different points of view on where these fundscan best be spent!Despite the fact that some operators avoid budgets, they are extremely important.The rationale for having and using a budget can be summarized as follows:1. It is the best means of analyzing alternative courses of action and allowsmanagement to examine these alternatives prior to adopting a particular one.2. It forces management to examine the facts regarding what is necessary toachieve desired profit levels.3. It provides a standard for comparison essential for good controls.4. It allows management to anticipate and prepare for future business conditions.5. It helps management to periodically carry out a self-evaluation of the organizationand its progress toward its financial objectives.6. It provides a communication channel whereby the organization’s objectivesare passed along to its various departments.7. It encourages department managers who have participated in the preparationof the budget to establish their own operating objectives and evaluationtechniques and tools.8. It provides management with reasonable estimates of future expense levelsand serves as an instrument for setting proper prices.9. It identifies time periods in which operational cash flows may need to beaugmented.10. It communicates to owners and investors the realistic financial performanceexpectations of management.Budgeting is best done by the entire management team, for it is only throughparticipation in the process that the whole organization will feel compelled to supportthe budget’s implementation. Foodservice budgets can be considered as one ofthree main types:

1. Long-range budget2. Annual budget3. Achievement budgetLONG-RANGE BUDGETThe long-range budget is typically prepared for a period of three to five years. Whileits detail is not great, it does provide a long-term view about where the operationshould be going. It is also particularly useful in those cases where additional operational units may increase sales volume and accompanying expense. Assume, forexample, that you are preparing a budget for a corporation you own. Your corporationhas entered into an agreement with an international franchise companyto open 45 cinnamon bun kiosks in malls across the United States and Canada.You will open a new store approximately every month for the next four years. Toproperly plan for your revenue and expense in the coming four-year period, a longrangebudget for your company will be much needed.ANNUAL BUDGETThe annual, or yearly, budget is the type most operators think of when the wordbudget is used. As it states, the annual budget is for a one-year period or, in somecases, one season. This would be true, for example, in the case of a summer campthat is open and serving meals only while school is out of session and campers areattending, or a ski resort that opens in late fall but closes when the snow melts.It is important to remember that an annual budget need not follow a calendaryear. In fact, the best time period for an annual budget is the one that makes sensefor your own operation. A college foodservice director, for example, would wanta budget that covers the time period of a school year, that is, from the fall of oneyear through the spring of the next. For a restaurant whose owners have a fiscalyear different from a calendar year, the annual budget may coincide with either thefiscal year or the calendar, as the owners prefer.It is also important to remember that an annual budget need not consist of12 one-month periods. While many operators prefer one-month budgets, someprefer budgets consisting of 13 28-day periods, while others use quarterly (threemonth)or even weekly budgets to plan for revenues and costs throughout thebudget year.ACHIEVEMENT BUDGETThe achievement budget is always of a shorter range, perhaps a month or a week.It provides current operating information and, thus, assists in making current operationaldecisions. A weekly achievement budget might, for example, be used topredict the number of gallons of milk needed for this time period or the numberof servers to be scheduled on Tuesday night.DEVELOPING THE BUDGETSome managers think it is very difficult to establish a budget, and, thus, they simplydo not take the time to do so. Creating a budget is not that complex. You canlearn to do it and do it well. To establish any type of budget, you need to have thefollowing information available:1. Prior-period operating results2. Assumptions of next-period operations3. Goals4. Monitoring policies

To examine how prior-period operating results, assumptions of next-period operations,and goals drive the budgeting process, we will consider the case of Levi, whois preparing the annual foodservice budget for his 100-bed extended-care facility.PRIOR-PERIOD OPERATING RESULTSLevi’s facility serves patient meals to an average occupancy of 80%, and he servesapproximately 300 additional meals per day to staff and visitors. His departmentis allotted a flat dollar amount by the facility’s administration for each meal heserves. His operating results for last year are detailed in Figure 10.12. Patient andadditional meals served were determined by actual count. Revenue and expense figureswere taken from Levi’s income (P&L) statements at the year’s end. It is importantto note that Levi must have this information if he is to do any meaningfulprofit planning. Foodservice unit managers who do not have access to their operatingresults are at a tremendous managerial disadvantage. Levi has his operationalsummaries and the data that produced them. Because he knows how he has operatedin the past, he is now ready to proceed to the assumptions section of the planningprocess.FIGURE 10.12 Levi’s Last-Year Operating ResultsIMAGE(https://etravelweek.com/hmattachments/26_200911050200056EIj3.gif)ASSUMPTIONS OF NEXT-PERIOD OPERATIONSIf Levi is to prepare a budget with enough strength to serve as a guide and enoughflexibility to adapt to a changing environment, he must factor in the assumptionshe and others feel will affect the operation. While each management team will arriveat its own conclusions given the circumstances of the operation, in this example,Levi makes the following assumptions regarding next year:1. Food costs will increase by 3%.2. Labor costs will increase by 5%.3. Other expenses will rise by 10% due to a significant increase in utilitycosts.4. Revenue received for all meals served will be increased by no morethan 1%.5. Patient occupancy of 80% of facility capacity will remain unchanged.

Marion’s Yardstick Standards for LaborStep 1. ManagementFood ProductionServiceSanitationStep 2. Management $ 40,000Food Production      65,000Service              12,000Sanitation           18,000Total               135,000Step 3. $450,000 total revenue in prior period (9 months)Step 4. Management       $ 40,000/135,000 = 29.6%Food Production            65,000/135,000 = 48.2Service                    12,000/135,000 = 8.9Sanitation                 18,000/135,000 = 13.3Total                           = 135,000 = 100.0%Step 5. Management       $ 40,000/450,000 = 8.9%Food Production            65,000/450,000 = 14.4Service                    12,000/450,000 = 2.7Sanitation                 18,000/450,000 = 4.0Total                           = 135,000 = 30.0%Step 6.IMAGE(https://etravelweek.com/hmattachments/26_2009110502000512xfSL.gif)Note that, to compute the data for Step 6, Marion must multiply % cost to totalsales by his weekly sales estimate. Using the sales estimate of $13,000, for example,the management portion of the budget would be computed as follows:                 0.089 x $13,000 = $1,157The food production cost expense estimate, based on the same weekly sales, wouldbe computed as follows:                 0.144 x $13,000 = $1,872Step 7. AnalysisIt is now easy for Marion to identify exactly where his labor variations, if any, areto be found.The yardstick method may, of course, be used for any operational expense, beit food, labor, or one of the many other expenses you will incur. In all cases, however,you must monitor your actual expenditures as they relate to budgeted expenditures,while keeping changes in sales volume in mind.

Levi would be able to establish these assumptions through discussions with hissuppliers and union leaders, his own records, and, most important, his sense of theoperation itself. In the commercial sector, when arriving at assumptions, operatorsmust also consider new or diminished competition, changes in traffic patterns, andnational food trends. At the highest level of foodservice management, assumptionsregarding the acquisition of new units or the introduction of new products will certainlyaffect the budget process. As an operator, Levi predicts items 1, 2, and 3 byhimself, while his supervisor has given him input about items 4 and 5. Given theseassumptions, Levi can establish operating goals for next year.ESTABLISHING OPERATING GOALSGiven the assumptions he has made, Levi can now determine actual operating goalsfor the coming year. He will establish them for each of the following areas:1. Meals served2. Revenue3. Food costs4. Labor costs5. Other expenses6. ProfitMEALS SERVEDGiven the assumption of no increase in patient occupancy, and in light of his resultsfrom last year, Levi budgets to prepare and serve 29,200 patient meals. Hefeels, however, that he can increase his visitor and staff meals somewhat by be-ing more customer-service driven and by offering a wider selection of items onthe facility’s cycle menu. He decides, therefore, to raise his goal for additionalmeals from the 109,528 served last year to 115,000 for the coming year. Thus,his budgeted total meals to be served will equal 144,200 meals (29,200 +115,000 = 144,200).REVENUELevi knows that his total revenue is to increase by only 1%. His revenue per mealwill thus be $3.46 x 1.01 = $3.49. With 144,200 meals to be served, Levi will receive$503,258 (144,200 x $3.49 = $503,258) if he meets his meals-served budget.FOOD COSTSSince Levi is planning to serve more meals, he expects to spend more on food. Inaddition, he assumes that this food will cost, on average, 3% more than last year.To determine a food budget, Levi computes the estimated food cost for 144,200meals as follows:1. Last year’s Food Cost per Meal = Last Year’s Cost of Food/TotalMeals Served = $192,000/138,728 = $1.382. Last Year’s Food Cost per Meal + 3% Estimated Increase in FoodCost = $1.38 x 1.03 = $1.42 per Meal3. $1.42 x 144,200 Meals to be Served this Year * $204,764 EstimatedCost of Food this Year

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