Determining food prices in franchising

Patrick Nebuloni

Developing consistent and competitive costing models and structures are central to ensuring a food franchise can achieve short term profitability and sustainable success.

Setting and determining prices of items sold to customers is a challenging aspect of running a successful food franchise business. While franchises wants to offer competitive prices that are lower than their rivals, this strategic imperative should be tempered by the notion that pricing needs to be profitable, in order for a franchise to survive in the long term.

Every pricing decision should result in a win-win outcome in which customers obtain value for their money, while businesses still make a reasonable profit.

Cost of sales model

As a starting point, the most efficient and recommended way to determine a selling price is to source the cost of sales amount and multiply this figure by two and a half. Generally, food and beverage costs should be around 36% to 40%. This means that if a franchisee spends R1.00, they should charge a maximum of R2.50 for that same product.

While this charge may seem excessive, one needs to bear in mind that the pricing model is not limited to the food or beverage item, but also includes factors such as preparation, service and cleaning.

Variables such as electricity, fuel, cooking gas and wage demands can also impact the pricing model, as these have an indirect effect on raw materials, which affects the cost of sales and have a direct effect on the bottom line, as overheads increase.

Assessing costs

To further assist price setting, company costs as well as trends in the competitive markets, must be understood. In order to achieve this goal, these pertinent questions should be asked:

• What are the direct costs of the product? This refers to the raw materials used to produce the end product.
  
• What are the business's indirect expenses? These are often referred to as overheads and include expenses such as insurance, advertising, rent, office expenses and salaries.
  
• What is the company's breakeven point? This term refers to when costs and income are equal, meaning there's no profit.
  
• How is the competition pricing their offerings? Compare the offerings and prices of competitors, to evaluate where the company's goods fit into the existing market. Efforts should be made to examine internal processes, and determine where value can be added without increasing costs.
  
• What is the current state of your industry and the overall economy? One needs to understand the changing nature of the marketplace to ensure that good business decisions are continually made.

Increasing revenue

At some point in time, the need will also arise to raise prices, in order to enable a significant increase in revenue. There are various methods in which to raise prices:

• Move prices up to the next psychological barrier. For example, if the price is R9.00, it might be possible to raise it to R9.99 without difficulty.
  
• Shift fees formerly included in the price. For example, instead of raising the price of a food platter with dipping sauces from R199 to R200, a franchisee removes the dipping sauces as a standard offering, and maintains the price at R199. Rather, they now charge an extra R10 for the sauces as an add-on if requested.
  
• Keep price increases modest for signature food items and raise the price on items less well known by the general public.
  
• Test the impact of a price increase by conducting market research.

Pricing should be reviewed on a six monthly basis, owing to the current volatility in the raw materials markets in South Africa, and the fact that the market is saturated at present with a number of competitors.

A business's ultimate goal should be to only increase prices once a year. Customers are prepared to accept a yearly price increase, but will soon start questioning a business offering if two or three increases are implemented in any given year.

ROI over 4 years

When setting these prices, cognisance should be taken of the fact that the realistic or acceptable Return on Investment (ROI) figure in South Africa in the restaurant and fast food industry is around 20% to 25% per year, or a full return over four to five years.

Ultimately, through understanding and applying these costing principles and accurately assessing market needs, a franchisee can offer competitively priced and profitable products. In doing so, the franchisee will not only lay a platform to attract more customers, but ensure that its business can be sustained well into the future.