In a very well written post on Waiternotes.com titled “Self-Fulfilling Prophecies,” the author examined in-depth the price reduction strategies the owners of the two restaurants where he works have employed over the last year. The main point revolved around how cut-rate specials were bringing in more traffic (although not more than before the recession) but that the reductions were hurting profits, check averages, and the restaurant’s brand overall.
Considerable worry has been circulating the food service industry about the issue of price reductions and customer expectations. There is no doubt that most of the industry has embraced aggressive pricing as a way to keep traffic and sales up, and for the most part this strategy has accomplished those two goals.
But at what price? Servers like the one on Waiternotes are understandably upset because check averages have surely plummeted and are unlikely to go up again any time in the near future. Perhaps a more creative compensation strategy is in line. The argument that this dilutes a restaurant’s brand and/or reputation is a compelling one, but not without its problems.
For starters, study after study have shown that the new economic reality means consumers are putting a premium on value. The point is debatable, but in general this seems to be a function of consumers pinching their pennies even as the economy begins to improve. Some have even suggested that the freewheeling heavy spending days of the recent past are permanently gone as consumer psyche shifts.
That means restaurants, along with most other businesses, are going to have to adjust their products and marketing to reflect new customer expectations. Prix fixe dinners, half-portion specials, and all the other strategies restaurants are adopting to get customers in the door are a symptom of the times, rather than an ill-advised effect.
The jury is still very much out on whether restaurants can survive their own race to the proverbial bottom of the price (and consequently profit margin) barrel. But I suspect that those who figure out how to walk that tightrope between value and profit will become the new power players in the food service industry.
A good example is Subway’s $5 foot long promotion. The price is through the floor. The competition scrambled to catch up and then quickly undercut the $5 price. The dark prophecies of brand devaluation and vanished profitability spread quickly through the crowd of panicked onlookers. 6 months after Subway launched the promotion, they’re rolling in profits. It doesn’t matter that Quizno’s undercut their $5 price. Customers still see a value there and Subway is doing much more business at a lower margin, which still translates into more net profit.
Which brings me to an interesting article from the Harvard Business e-newsletter titled “Why High Profit Margins Don’t Prove Smart Pricing.” There is a trade-off between volume and margin. Those two lines intersect at some point for any business. For the past two decades, the prevailing model was to pursue higher margins in smaller and smaller niches. Consumers, lulled into a false sense of security by easy credit, happily paid more for products that seemed suited just for them.
Now the trend has been reversed, and value is the watchword of the day. That means price reductions are probably here to stay, and because consumer expectations have changed, will more than likely improve brand perception rather than dilute it.