A Common Misnomer About Pricing

When it comes to the bar/restaurant business, you'll find that everyone who is not involved in this business views themself as an expert consultant on how to make your establishment better. And I would say 9 times out of 10 their suggestions involve some sort of concept where you spend more money and reduce prices.

i.e. "You know what you should do? You should get this band to play here, they are expensive but really good. They always bring a good crowd, and if you ran a 2 for 1 special, you guys would pack this place and make a ton of money."

Well, thank you for you suggestion, but my response to you is that Communism also looked good in theory. Reality however is that it just doesn't work that way.

I can easily show how these pie in the sky ideas never work by using simple math.

Let's start with a drastically shorten equation for Profits:

Profits = Cost of Drinks * Number of Patrons - Overhead
or
Profits = X*Y - Z
where;
X = Cost of Drinks
Y= Number of Patrons
Z = Overhead of Drinks and Misc. Expenses

In the business world, the bottom line is always the profits. You want to run your business better to improve your profits while making the service you supply better for your customers. Cheaper service does not always mean better service, but cheaper service always means smaller profits. Which inturn lead to less opportunity to better your business. But lets take a closer look at the above suggestion about the band plus 2-1 drink idea to better our business.

The suggestion again was to hire a large band at a high cost (lets say $500 for round numbers) and then serve 2-1 drinks to attract a big crowd. Implementing this into equation format we get the following;

Suggestion:
Cost of Drinks = 1/2 X (half price drinks or 2-1 special)
Number of Patrons = 2Y (double the amount of people that show up)
Overhead = 2Z+500
(this is the part normally overlooked by these self proclaimed experts, and that is normally because they never see the costs associated with overhead so they don't event think about it. So to break this down, the overhead cost of the drinks would double (2Z) because you are selling double the drinks so you have to purchase double the inventory and then add on the additional cost of the 'great band' and you get a drastically elevated overhead.)

So now our new equation for profit, if we were to follow the suggestion would be;

Profits = 1/2X * 2Y - (2Z + $500)

=X*Y-(2Z+$500)

So essentially, by doubling the people that come by reducing the cost of drinks and adding on the cost of band, all that you as the business have done is drastically reduced your profits.

Now, if this equation format is a little too confusing, I will use real numbers to further illustrate my point.

Lets say, again for round numbers
x=$10 per drink
Y=100 People
Z=$500 overhead of drinks sold

Our original equation before making the change would be the following:

Profit = X*Y-Z = $10*100-$500 = $500 .... woohoo!!!

Our new equation after the change would be:

New Profit = 1/2X*2Y-(2Z+$500)

Where again;
1/2X= half price drinks
2Y= Double the amount of Patrons
2Z+$500=Twice the overhead of purchase price of drinks plus the cost of the band

New Profit = (1/2*$10)*(2*100)-(2*$500+$500)

= $5*200-$2000 = $1000 - $1,500 = -$500 .... Ouch!!!

So essentially we went from making a $500 profit to having a $500 loss. Not such a good business move if you plan on sticking around.

I know there are probably several different arguments as to why it is sometimes good to take a loss, namely to increase awareness of your business and boost the number of patrons. But the bottom line always comes down to profits and loss. If you can't make money, you can't run a business and you'll be forced to close.

And if you still don't believe me, then picture it this way.

View your salary as your profits and your job duties as your service. Would you be willing to work at a job where instead of getting paid, you had to pay your company money out of your own pocket just so that you could do work for more people?

That doesn't make sense why would anyone ever pay to work if you didn't make any money?

And similarly, why would a business increase their expenses if it was just going to lose them money?