A few Sundays ago, I ventured out to my favorite brunch buffet destination in Cambridge, The Blue Room. While not as over the top as the $65 Sunday brunch at the local Four Seasons (which features unlimited cracked lobster), The Blue Room is a sure bet for high quality ingredients and innovative cooking. And well…you can’t beat the price…$23 for all you care to eat. After enjoying a delicious meal, I did what I always do…I started wondering how this business makes money – without a care in the world, diners were loading high cost items onto their plates. My dining companion suggested that perhaps the profit comes from alcohol sales. She had a good point, most adults had ordered alcohol and kids were drinking fresh squeezed orange juice. Even I had imbibed in a $5.50 draft beer. It got me thinking, was this buffet in essence giving away their high quality food to make a buck or two on drinks?
In search of answers, I discovered Robert Ambrose’s blog, The Art of the Buffet. As you can tell from Mr. Ambrose’s enthusiastic prose, this guy is quite knowledgeable and truly enjoys buffets. After reading his blog, I became more intrigued with buffet prices. Dinner prices at many of the buffets that Robert blogs about range from $9 - $11. Now I really wanted to know…how do these places make money?
Shortly after contacting Mr. Ambrose to interview him about buffet pricing (which he graciously granted), he wrote his own blog on the topic. He makes several interesting points. From a cost perspective, Robert mentions: (1) Tables turnover quickly (since no wait for meals to arrive), (2) Food is reused (today’s left over roast beef becomes tomorrow’s beef stew), and (3) Diners tend to fill up on low cost starches (e.g., potatoes and bread). One point that Robert added in my interview is that buffets have lower labor costs (fewer waitresses and cooks). The only point where I may not be totally onboard with Mr. Ambrose is his assertion that the average person eats less at a buffet then the standard entrée size at a restaurant. I mean, how many of us have left a buffet groaning “no mas?” While Mr. Ambrose makes several interesting points, I still was not satisfied…I kept waking up in the middle of the night wondering… “how are these buffets making money?”
Furthering my research, I discovered the 10K financials of Old Country Buffet (OCB). Now here is where things get interesting! As of September 2006, OCB operated roughly 360 restaurants in the U.S., most of their locations being all you can eat buffets. For their fiscal year ending June 28, 2006, OCB had total revenues of $963 million, operating profits of $46 million, and actually had a negative net profit of (-$4.8 million). The average check price per person was $7.89 (averaged over breakfast, lunch, and dinner). Food and restaurant labor costs accounted for 34% and 28.5% of total revenues respectively.
I’ve thrown out a lot of numbers, so let’s discuss the interesting figures. First, I’d focus on OCB’s operating profits as I believe they best represents the profitability of OCB’s ongoing operations (thanks to Ken Li - my good friend and old office mate at Monitor Group – for helping me interpret this financial information).* OCB has a 4.7% operating profit (operating profit divided by revenue)…which means that on the standard check of $7.89, the restaurant makes an operating profit of 37 CENTS. All that effort and OCB’s profits per person is less than the price of a U.S. first class stamp. “Wow,” you may be thinking, “that’s a tight margin.” But remember, OCB is not unique, many companies have comparatively slim margins (that’s why a 1% price increase can make such a big difference – in OCB’s case, 1% is equivalent to an 8 cent average price increase). What I found most interesting about OCB’s numbers is with food costs accounting for 34% of revenue, this translates into the average person eating $2.68 in food. When I look around at these buffets, a lot of people seem to be eating more than $2.68 of food. Much like the auto insurance industry used to face, restaurant buffets suffer the problem of adverse selection. Skipping the economist’s gobbly gook definition – let’s get to the real point of adverse selection: diners who enjoy food are attracted to buffets and they can destroy profit margins.
I feel sorry for my friends - they really suffer from my pricing obsession. Whenever I talk to them, I always steer the discussion towards my next blog. They’ve been hearing about buffets for the last few weeks. Interestingly, their comments also point to the notion of adverse selection (“buffets make money off my young daughter,” “seniors do not eat very much,” “my wife just eats the salads.”). They are in essence explaining that buffets make money off some customer segments and lose on others.
My bet is there’s room for buffets (both everyday as well as Sunday/Holiday only) to better deal with adverse selection through better pricing. First off, why not raise the overall price (my bet is that big eaters will not have an issue with higher prices – they realize the value they get) and better discount prices for small eaters (e.g., seniors, children)? Or how about offering a “chef’s table” – for an extra $3 diners get access to premium carved meats (to profit from those that go straight to the high margin items). If bus tours that make reservations kill margins (e.g., high school football teams) – why not charge higher prices to make a large group reservation? If Sunday buffets are not making money from people that drink tap water, why not charge them a different price? While straightforward, these types of small changes can have a powerful impact of the bottom line…remember that postage stamp sized profit margin!
Please feel free to send me any questions or comments. I update this blog two to three times a week – please consider signing up to be notified by e-mail of a new blog post. Thanks for taking the time to read my blog.
* The big difference between operating and net profits for Old Country Buffet is a large interest expense. This large interest expense could have come from the company buying out public shareholders in 2000 and recent acquisitions.