Hospitality Accounting

Activity-Based Costing: A More Accurate Way to Estimate

the Costs for a Restaurant Menu

Carola Raab Stowe Shoemaker

Karl J. Mayer

ABSTRACT. Activity-Based Costing (ABC) has been successfully ap- plied in the manufacturing industry for the last two decades. In this study, a workable ABC model for restaurants was created and tested in a restau- rant operation in a western urban area of the United States. The study iden- tified that the actual cost of the dinner entrees was higher than the restaurant’s prices, when analyzed using ABC methods. The results revealed that ABC appears to be a very feasible method for establishing accurate menu costs in restaurants. doi:10.1300/J149v08n03_01 [Article copies available for a fee from The Haworth Document Delivery Service: 1-800-HAWORTH. E-mail address: <[email protected]> Website: <http://www.HaworthPress.com> © 2007 by The Haworth Press, Inc. All rights reserved.]

KEYWORDS. Restaurants, profitability, activity-based costing, cost accounting, menu pricing

Carola Raab, PhD, and Karl J. Mayer, PhD, both are Assistant Professors, Tourism and Convention Department, William F. Harrah College of Hotel Administration, University of Nevada, Nevada.

Stowe Shoemaker, PhD, is Associate Dean of Research, Conrad N. Hilton College, University of Houston, Texas.

Address correspondence to: Carola Raab, Tourism and Convention Department, William F. Harrah College of Hotel Administration, University of Nevada, 4505 Maryland Parkway, Las Vegas, NV 89154 (E-mail: [email protected]).

International Journal of Hospitality & Tourism Administration, Vol. 8(3) 2007 Available online at http://ijhta.haworthpress.com

© 2007 by The Haworth Press, Inc. All rights reserved. doi:10.1300/J149v08n03_01 1

INTRODUCTION

A major challenge for the restaurant industry in the twenty-first cen- tury will be the ability of restaurant managers to find a balance between appropriate product pricing and serving customers’ diverse needs. One theoretical approach that has provided manufacturing firms with a better comprehension of costs and increased profitability stems from Activity- Based Costing (ABC) theory (Cooper, 1989; Cooper & Kaplan, 1992). ABC has major advantages over other costing methods by showing the ability to trace overhead costs, which allows for more accurate unit cost- ing (Turney, 1991; Cooper & Kaplan, 1992). Furthermore, ABC infers that activities are the antecedents of cost and that cost objects create the demand for activities (Turney, 1991). Cooper and Kaplan (1988) pointed out the general conditions that make companies good candidates for the application of ABC systems, such as a diversity of resource consumption, or the fact that product and resource consumption are not correlated with traditional cost allocation methods. Rotch (1990) stated that these condi- tions apply to service companies as well.

Even though ABC has been applied in such diverse service firms as health care and financial institutions, ABC applications in the hotel or restaurant industry are almost non-existent (Keller, 1994). The restau- rant industry generally establishes menu prices by using contribution margin analyses. However, Kaplan and Cooper (1988) demonstrated that the domain of traditional contribution margin analysis could be greatly enhanced by the use of ABC. In addition, Kunst and Lemmik (1995) pointed out the difficulties of tracing costs to activities and activities to products and customers in restaurants.

Raab and Mayer (2003) interviewed controllers of a sample of the top 100 United States (U.S.) restaurant firms. Their study found that restau- rant managers are increasingly aware of the need to trace some of their overhead costs, such as salaries and wages, to individual menu item prices. Although approximately one-half of the respondents attempted to measure processes and their costs, only one restaurant company was able to gain knowledge of their labor costs by calculating activity-based labor costs (Raab & Mayer, 2003). The results of their study indicate the potential use of ABC in the restaurant industry.

However, few recent studies have discussed the application of ABC in the restaurant business. Thus, this study examines whether it is feasi- ble and desirable to extend ABC philosophies to the restaurant industry. The next section of this study examines the major challenges faced by restaurant managers and the traditional methods the industry typically

2 International Journal of Hospitality & Tourism Administration

applies in order to manage costs and to create profits. In addition, it discusses why the traditional methods applied by the restaurant industry often do not maximize profits. Furthermore, it examines the oppor- tunities to maximize profits in the restaurant industry through the application of ABC methods.

RESTAURANT INDUSTRY BACKGROUND

Challenges in the Restaurant Industry

Traditionally, the restaurant industry, with small profit margins and high failure rates, is considered to be a risky business (NRA, 2001; Bell, 2002). A study conducted by American Express (2003) claimed that 9 out of 10 new restaurant openings go bankrupt during their first year in business. Parsa (2003) challenged the American Express study re- sults and concludes that restaurant bankruptcies occurred at a somewhat lower rate of 60 percent.

Nevertheless, most of the published research on restaurant failures has concluded that the failure rates of new restaurants is relatively high and that independently owned restaurants are especially prone to fail in their first year of operation (Hume, 2002). The adverse economic condi- tions that followed the terrorist attacks of September 11, 2001 negatively affected the U.S. restaurant industry, which was borne out in unusually high numbers of restaurant bankruptcy filings during 2002 (Hume, 2002). A study on business failures, including those in the restaurant sector, identified two common problems that cause businesses to fail: Ineffective financial control and poor marketing strategies (Wilke, Josiam, Upchurch & Willems, 1996). As a result, the restaurant industry is faced with a number of specific challenges. For example, restaurants are very labor-intensive with labor costs often representing a large share of total operating costs (Chan & Au, 1998; Quain, Sansbury & LeBrutto, 1999). The control of labor costs is difficult, because service provision is a major part of the product in the restaurant industry. While restaurant patrons expect quality of food and beverage items, many of them visit restaurants for the service experience itself. Therefore, controlling labor costs without decreasing the level of service is a daunt- ing task, which creates the basic challenge of finding a balance between serving customers’ desires and achieving acceptable profitability levels. Although restaurant managers generally are able to monitor their cus- tomer’s needs, most of them lack specific knowledge of whether they

Raab, Shoemaker, and Mayer 3

will maximize overall profits by meeting their needs, in part because restaurant managers often do not know the true profitability of their var- ious menu items (Raab & Mayer, 2003).

Some restaurant studies suggest approaches that incorporate labor costs into menu item pricing (DeFranco & Noriego, 2000). However, in reality, menu prices are rarely analyzed; at best, either a contribution margin or menu engineering approach is applied to gain insights about proper menu pricing (Raab & Mayer, 2003). Further, menu engineering is based on a contribution margin analysis and cannot reveal the true profitability of a menu item if menu prices are set without a thorough knowledge of all operating costs. Clearly, these issues present signifi- cant continuing challenges for the restaurant industry.

Maximizing Restaurant Profits Through ABC

The application of ABC methods allows a manager to trace undistrib- uted operating expenses to individual menu items, which could be bene- ficial for several reasons. First, in the restaurant industry very little attention is ordinarily paid to undistributed operating expenses when product prices are established. Restaurant product prices are usually calculated strictly as a function of cost of goods sold, along with a cer- tain mark-up percentage (Bell, 2002). Usually, individual menu item prices only indirectly reflect any undistributed operating costs, such as labor, utilities, or fixed costs. In recent years, these expenses have increasingly captured a larger percentage of the total cost structure of a restaurant. In highly competitive market conditions, proper pricing measures become extremely important as profit margins are dimin- ished. Thus, restaurant operators may simply no longer be able to afford to price based on simply marking up their variable product costs. A more efficient and process-oriented restaurant organization could achieve increased labor productivity, thereby decreasing total labor costs, both directly and indirectly.

Second, an ABC analysis examines all major production activities and allows for the identification and reduction of activities that cost more than they add in value. These activities then can be either elimi- nated, outsourced, or conducted more efficiently by the employees. This type of analysis will assist not only in reducing organizational waste, but also in eliminating service delays for guests. In any service endeavor, all employees should be made responsible for the entire process of achieving customer satisfaction and loyalty (Zeithaml & Bitner, 2003).

4 International Journal of Hospitality & Tourism Administration

Third, once ABC are calculated, the accounting and marketing func- tions can cooperatively apply Activity-Based Pricing (ABP) methods by considering the relationships between ABC and menu prices de- termined at the point where total profits are maximized as well as value is created for customers (Daly, 2002). For example, research by Cardinaels, Roodhooft and Warlop (2004) found that using ABC analy- sis to help make pricing decisions could have significant positive impacts for multiple market segments under highly competitive condi- tions, which is typically the case for most hospitality markets. Thus, it seems quite apparent that ABC methods might be applied to the restau- rant industry with some tangible benefits.

The remainder of this paper will demonstrate how the basic princi- ples of ABC can be applied to the restaurant business. In doing so, it addresses two principal research questions: (1) Can an ABC approach trace restaurant overhead costs through activity centers to individual menu items; and, (2) can an ABC approach reveal the true cost structure of individual menu items?

In order to address these questions, an ABC model for the restaurant industry was needed, as one did not already exist. An ABC model for restaurants was developed by modifying Cooper’s (1989) ABC model for the manufacturing industry. Following Cooper’s (1989) approach, a qualitative case analysis technique, which incorporated both observa- tion and interview methods, was applied to this study. The result of the case analysis was an ABC model that was applicable to a full-service restaurant (Figure 1).

Next, a methodology for applying the model was created that allowed for the practical application of ABC in a restaurant setting (Cooper, 1989; O’Guin, 1991; Keller, 1994; Garrison & Noreen, 1997; Cokins, 2001; Daly, 2002). The model and its methodology were prepared in conjunction with the management of a full-service restaurant in the western United States to ensure that the approach was fundamentally sound. Dinner entrées were selected as the menu items to be analyzed in this study because management expressed concerns about the profit- ability of the restaurant’s dinner menu.

AN ABC APPROACH FOR RESTAURANTS

The first step of an ABC analysis is the identification of activities and activity centers. Activity centers are established across departments and accountability structures by combining homogenous processes. For a

Raab, Shoemaker, and Mayer 5

restaurant, it was appropriate to create two activity centers: The Front- of-the-House (FOH); and, the Back-of-the House (BOH). Individual activities in the restaurant were then identified so they could be classi- fied into either activity center. Major activities in the restaurant industry are myriad, and include purchasing, receiving, storing, food prepara- tion, cooking, cleaning, dining room set-up, customer seating, taking orders, ordering and serving food and beverages, table maintenance, ca shing out customers, and customer communication. However, all ac- tivities were ultimately coded as either FOH or BOH activities. They were then classified in an Activity Dictionary, as shown in Tables 1 and 2, so they could be easily communicated to all restaurant employees and to facilitate further analysis.

Garrison and Noreen (1997) suggest that all activities should be detailed in a Process Value Analysis (PVA), which is a flow chart that reveals all activities conducted in an organization and labels them as value-added and non-value added. In the restaurant industry, only activ- ities that actually produce the product or provide service to the customer are value-added. For example, all customer communications occurring in

6 International Journal of Hospitality & Tourism Administration

Restaurant Activity-Based Cost Model

General Ledger

Personnel

First Stage

Second Stage

Unit-Level Batch-Level

Product-Sustaining

Unit-Level Batch-Level

Product-Sustaining Facility-Sustaining

Food Cost

BOH Activitiy Center

Dinner Entrées

FOH Activitiy Center

Unit-Level Batch-Level

Product-Sustaining

Direct Operating Facility-Sustaining

FIGURE 1. Activity-Based Model for Restaurants

the Front-of-the-House and the production of menu items in the Back- of-the House are value-added activities. Non-value added activities include receiving, storing, moving goods, and waiting for processing. Basically, most non-value added activities consume resources without adding value to the product. Therefore, in order to minimize costs in a restaurant, such activities should be carefully examined by means of a PVA approach.

The next phase of applying ABC to a restaurant involved the exami- nation of the general ledger and the assignment of overhead costs

Raab, Shoemaker, and Mayer 7

TABLE 2. Activity Dictionary (Front-of-the-House)

Main Activities Description

Communicating Taking orders, interaction with customers, greeting customers, explain menu, sell menu items, taking reservations, answering phones, checking on guest satisfaction, seating people, communicating between bussers, management and servers.

Cleaning Keeping menus in order, cleaning floors, maintaining tables, and cleaning ashtrays.

Set-up Folding napkins, polishing silver, dining room set up (set tables, side station), making coffee, processing checks, process orders, (inputting into the Point-of-Sales System), close tabs.

Serving customers Serve water, pick up orders, serve meals, time orders, bringing condiments to table, replacing cutlery, present check, collect payment, and make change,

Administrating Supervision, forecasting, scheduling, and training.

TABLE 1. Activity Dictionary (Back-of-the-House)

Main Activities Description

Cleaning Dish-washing, disinfecting, cleaning floors, washing pots, refill soap hand wash stations, cleaning walls, counters, hoods, staff bathrooms, refrigera- tors, storage, beverage machines, removing trash, and washing hands.

Preparation Selecting, washing, cutting fruit and vegetables, defrosting, pre-portioning, sauces and soups, cutting meat, grinding meat, mixing ingredients, and line set-up.

Cooking Preparing hot meals, expediting, read orders and time orders, dish out soup, cook sides, fry meat and seafood, arrange items on plate and garnish, keep food warm, preparing salad, put together ingredients, preparing desserts, cut cake and dish ice cream, whip cream, bake, broil, blanch, stewing and, plate set-up.

Administrating Purchasing, budgeting, supervising, menu research, create menus and items, scheduling, training staff, receiving, storing, and forecasting.

into homogeneous cost pools. According to the Uniform System of Accounts for Restaurants, overhead costs include the following items: (1) Salaries and Wages; (2) Employee Benefits; (3) Direct Operating Expenses; (4) Music and Entertainment; (5) Marketing; (6) Utility Ser- vice; (7) General and Administrative Expenses; and, (8) Repair and Maintenance Expenses (Schmidgall, 1997). Homogeneous cost pools are a collection of overhead costs for which cost variations can be explained by only one first stage cost driver and that share a common purpose in the operation of the facility. An example of a first stage cost driver is the number of hours worked by the employees. This first stage cost driver is applicable to all labor related overhead costs.

Working with restaurant management and following the model guide- lines (Figure 1), three separate cost pools were created–labor, direct operating supplies, and facility sustaining. The first two cost pools con- tained overhead costs that were directly traceable to individual menu items. On the other hand, the facility sustaining cost pool contained all other overhead costs for which no first stage cost driver could be identi- fied. Therefore, no cost driver rates were established for this cost pool. Next, the labor and direct operating supplies cost pools were divided by the number of cost driver units, which established a cost driver rate for each of them. These pool rates were later applied as an internal costing mechanism for the dinner entrées, to reflect the cost of resources they consumed at each activity level.

The next step of an ABC process divides each activity center into a second stage, and establishes “second stage” cost drivers by dividing the total costs of each activity center into activity cost driver pools. According to ABC theory, all activities have a hierarchy, and cost drivers enable the activities to be grouped into different levels, such as unit- based, batch-related, product-related, or facility sustaining (Cooper, 1990; Turney, 1991; O’Guin, 1991; Garrison & Noreen, 1997).

Thus, there are four categories of second stage cost drivers applicable to the restaurant industry. The first is unit cost drivers, which occur any- time a unit is produced and are directly related to the number of units produced. The number of employee hours and units of utilities used are unit-based cost drivers applicable to the restaurant industry. The second category, batch cost drivers, incorporate everything that is produced in batches such as setting up the kitchen line or purchasing inventory. The third category, product level drivers, signify resources used by product- level activities that are performed to sustain products in the company’s product line. In a restaurant, some examples of product-level activities include establishing and maintaining specifications, recipe testing, and

8 International Journal of Hospitality & Tourism Administration

expediting food production. Finally, the facility sustaining cost driver category contains costs that sustain a company’s general processes such as accounting, marketing, property taxes, security and landscaping.

According to ABC theory, each of the activity cost driver pools has its cost assigned to products using a second stage cost driver that is unique to each cost pool. A cost driver pool is distributed to products based on the number of cost driver units it consumes. The overhead cost applied to the product is calculated by multiplying the number of cost driver units with the cost pool rates established during the first stage of an ABC process. Finally, ABC costs that were calculated for each entree were condensed as bills of activity. A completed bill of activity becomes a powerful tool for analysis and subsequent action by restaurant man- agement. An example of a completed bill of activity that resulted from this study for a dinner entrée (Pasta Marinara) is presented in Table 3.

Since the restaurant involved in this study operated at a loss, all over- head costs were a major source of concern by management. However, similar to most restaurant operations, labor and related costs repre- sented by far the greatest source of concern to management. Therefore, the main objective for the study became the ability to trace labor and related costs to each entrée. In addition, management also wanted to trace all direct operating supplies to individual dinner menu items. Thus, three cost pools were established along these lines: (1) A “Person- nel” cost pool, which included all salaries, overtime pay, and wages for temporary help, all employer taxes, worker compensation expenses, employer insurance, and employee meal accounts; (2) a “Direct Operat- ing Supplies” cost pool, incorporating the uniform and laundry account as well as the disposable supplies account; and (3) a “Facility Sustaining” cost pool, including the utility, repair and maintenance, accounting, general and administrative expenses, insurance, security, landscaping, telephone, marketing, travel and entertainment, and equipment depre- ciation accounts.

Next, the three cost pools were assigned to the two activity centers (FOH and BOH) and cost pool rates were calculated. Table 4 displays the results of this process for the first two cost pools, including their as- sociated cost pool rates. Table 4 does not display the facility sustaining cost pool because according to the ABC literature, cost pool rates can only be calculated from cost pools that can be traced to individual menu items (O’Guin, 1991; Garrison & Noreen, 1997). Instead, an allocation value was established for the facility sustaining cost pool based on the number of dinner entrees that were sold during the month of November 2003. This approach for these costs is consistent with ABC theory in

Raab, Shoemaker, and Mayer 9

manufacturing, which ultimately allocates a portion of the total over- head costs that cannot be traced to individual items. All figures shown in Table 4 were obtained from the restaurant’s general ledger for November 2003, which was provided by restaurant management. Both activity centers were then divided into cost driver pools and levels of activities were established.

10 International Journal of Hospitality & Tourism Administration

TABLE 3. Completed Bill of Activity for Pasta Marinara Entrée

Activities Resources Used

Cost Pool Rates ($/Minute)

Total Cost $

Unit-Level Activities–FOH Communicating 1.20 minutes 0.39 0.47 Setting-up 1.00 minutes 0.39 0.39 Serving customers 1.00 minutes 0.39 0.39 Processing checks 1.45 minutes 0.39 0.56 Total 4.65 minutes 1.81

Unit Level Activities–BOH Preparation 2.0 minutes 0.17 0.34 Cooking 2.0 minutes 0.17 0.34 Cleaning 1.0 minutes 0.17 0.17 Total 5.0 minutes 0.85

Total unit-level activities 9.65 minutes 2.66 Batch-Level Activities–FOH

Setting-up 3.20 minutes 0.39 1.25 Cleaning 1.59 minutes 0.39 0.62 Administrating 3.83 minutes 0.39 1.49 Total 8.62 minutes 3.36

Batch-Level Activities–BOH Preparation 6.13 minutes 0.17 1.04 Cleaning 5.55 minutes 0.17 0.94 Total 11.68 minutes 1.98

Total batch-level activities 20.30 minuts 5.29 Product-Sustaining Activities

FOH–Administrating 2.55 minutes 0.39 0.99 BOH–Administrating 3.21 minutes 0.17 0.55

Total Product-Sustaining Activities 5.76 1.54 Facility-sustaining activities 1 unit 5.29 Direct operating costs 4.97 percent 0.26 1.29 Food costs 1 unit 2.00 Total cost 18.07

Observation and interview methods were employed to identify sec- ond stage cost drivers and activity hierarchies, which divided the two activity centers into unit-level, batch-level, product-related, and facility sustaining cost pools. Basic second stage cost drivers for unit-level ac- tivities were identified as time spent on activities conducted each time a customer is served and an entrée is produced. General cost drivers for batch-level activities were the number of batches required, such as number of set-ups per day, or the number of times purchasing and re- ceiving is needed during the month. Major product-sustaining cost driv- ers were identified as the number of new menu items created each month and the number of new employees hired per month. The results of the ABC process became a completed bill of activity for each menu entrée (Table 3), which allowed restaurant management to truly under- stand the cost structure of its menu for the first time.

DISCUSSION

The ABC approach described in this study revealed that the dinner menu, which contained fourteen individual entrées, was the major contributor to the restaurant’s negative operating profit. This result reflects the restaurant’s relatively high overhead costs, and particularly its high labor costs. In this case, the entrées’ actual costs were higher than the restaurant’s menu prices, if analyzed using ABC methods. Therefore, every time a dinner entrée was sold, with the exception of

Raab, Shoemaker, and Mayer 11

TABLE 4. Cost Pool Rates

Activity Centers Personnel Direct Operating Supplies

FOH $23.60/hour ($11,545/489 hours)

$0.26/entrée ($218.24/828 units consumed)

FOH cost pool rate calculations

Total labor cost/hours worked Total direct operating costs/units used

BOH $10.22/hour ($4686.75/458.50 hours)

$0.26/entrée ($509.23/1932 units consumed)

BOH cost pool rate calculations

Total labor cost/hours worked Total direct operating costs/units used

Note: All figures shown in the table were obtained from restaurant management for the month of November 2003; for example, the hours used came from the restaurant’s payroll records, and the units consumed rep- resent actual supplies that were used during the month.

three entrees that could be classified as very profitable, the restaurant suffered an operating loss.

In addition, the analysis of the general ledger cost pools provided some compelling insights. First, the separation of overhead costs into homogenous cost pools and their assignment to the FOH and BOH ac- tivity centers revealed where major costs occurred with far more preci- sion. For example, for the dinner shift observed in this study, the FOH incurred 61 percent of the overhead costs; of that figure, the FOH “Per- sonnel” cost pool represented over half (53 percent) of all overhead costs. The detailed analysis of labor costs and hours necessary to estab- lish the “Personnel” cost pool and a cost pool rate identified that the hourly wages paid at the restaurant involved in this study are much higher than restaurants traditionally pay for their labor.

In addition, the analysis showed that the BOH incurred overtime hours for 53 percent of all hours worked. The use of part-time employees and more sophisticated demand forecasting methods are some likely solutions that could result in the reduction of overtime hours for this establishment.

Another opportunity for management to reduce FOH labor costs arises from the use of PVA to reduce and eliminate any non-value added activi- ties. For example, in the restaurant involved in this study, approximately one-half of all the existing activities in the BOH and FOH are consuming resources without directly assisting in producing products or providing service to the customer. This seems much too great a commitment to non-value added activities. Therefore, management should review all non-value added activities and use this information to improve the estab- lishment’s processes. Some of the non-value added activities that were identified should be eliminated, such as personal conversations and ex- tensive personal phone calls. Other non-value added activities could be candidates for outsourcing. For example, non-value added food prepara- tion activities in the BOH could be reduced if pre-cut and pre-washed produce is purchased and meat and fish product are purchased already portioned. Finally, it may be advisable to outsource some of the cleaning activities such as the cleaning of hoods, walls and restrooms. Even though these actions may be considered common sense for a restaurant manager, the significance these insights might not have been identified if the restaurant had not been subjected to an ABC analysis.

These insights are consistent with the thrust of ABC applications in the business literature, which suggest that if products consume diverse amounts of resources, the ABC method will reveal dramatically different product costs in comparison to product cost methods that are based solely on contribution margins (Cooper, 1989). Indeed, this study revealed that

12 International Journal of Hospitality & Tourism Administration

overhead costs were consumed at a diverse resource consumption rate by each entrée.

IMPLICATIONS AND LIMITATIONS

This study demonstrated that ABC methods can be successfully applied to a restaurant. The ABC model that was developed in this study can be applied to virtually any full-service restaurant, but the results of such a study would likely be different from this one, depending upon the market characteristics and cost structure of that particular restaurant. Nevertheless, applying ABC methods can assist to restaurant operators in a number of ways. First, ABC can enhance restaurant feasibility anal- ysis by making menu planning more accurate relative to individual item profitability. Second, ABC methods can help a restaurant identify which menu items are truly profitable and which ones are not, given the restaurant’s customer profile. Third, ABC methods can assist in evalu- ating promotions, such as the decision to use a price discount on a fea- tured item to boost sales; ABC can help determine whether that decision will incur a profit or loss for the promotion.

Although it is only a single case study of a restaurant, the findings indi- cate that restaurant managers should make menu decisions using more complete cost information. It also suggests that applications of menu profitability analyses that go beyond the simple analysis of food costs may be very appropriate for a restaurant. Restaurant managers can make much more reliable decisions with complete cost information, which emphasizes the need to calculate ABC costs for each item on the menu.

Furthermore, this study supports Cooper’s (1989) view that the lack of precise product overhead costs may totally distort total product cost and price, which was the case for this restaurant. Thus, it is likely that a restaurant manager’s menu management decisions will differ dramati- cally if he or she is confronted with differing results from a contribution margin or an ABC approach. Of course, many other factors besides cost also enter into menu pricing decisions, such as customer perceptions of value and quality, customer segmentation, and competition.

This study contains a number of limitations that should be noted. First, although the ABC model that was developed could be applied to other full-service restaurants, the specific findings of this study cannot be generalized to the restaurant industry as a whole, or to other restaurant types, without further research. Second, this study only examined the restaurant’s dinner entrees; the restaurant’s beverage service and its

Raab, Shoemaker, and Mayer 13

lunch menu were not included herein. Thus, no conclusions can be drawn about the restaurant’s situation on an overall basis since a com- plete ABC analysis of all food and beverage items was not done.

SUMMARY

This study was able to develop and apply a workable ABC model for a restaurant, which established a unique overhead cost value for each menu item. This process allowed for the calculation of bills of activities for all entrées, which included both the overhead costs and food cost per entrée. Therefore, this study was able not only to assign accurate over- head rates, but also to provide true product cost information for the res- taurant in the form of operating profit margins for each entrée. It suggests that ABC methods can be applied in the restaurant industry, and may allow for greatly improved financial analyses that incorporate more precise and complete cost information. Thus, the study revealed that the application of ABC methods to restaurants is not only feasible, but also highly informative.

Future research on this topic should include determining whether ABC methods can be applied to other restaurant types, such as buffet, quick service, or casual dining venues. In addition, the ABC analysis should in- corporate all meal periods in a restaurant, so that an overall picture of the operation can be determined. Further, the potential application of ABC methods to other hospitality sectors, such as hotels, spas, or casinos, should be investigated. Finally, it would also be beneficial to conduct a study that combines ABC with a price sensitivity analysis, which would incorporate both costing and pricing aspects of a hospitality operation.

REFERENCES

American Express (2003). Unpublished study cited in the NBC television show: The Restaurant.

Bell, D. (2002). Food & Beverage Cost Control–Course Packet. Las Vegas: University of Nevada, Las Vegas, Department of Reprographic Services.

Cardinaels, E., Roodhooft, F. & Warlop, L. (2004). The Value of Activity-Based Costing in Competitive Pricing Decisions, Journal of Management Accounting Research, l6(1), 133-148.

Chan, W. & Au, N. (1998). Profit Measurement of Menu Items, Cornell Hotel and Restaurant Administration Quarterly, 39(2), 70-75.

Cokins, G. (2001). Activity-Based Cost Management: An Executive Guide, NY: John Wiley & Sons, Inc.

14 International Journal of Hospitality & Tourism Administration

Cooper, R. (1989). The Rise of Activity-Based Costing–Part 4: What Do Activity- Based Cost Systems Look Like? Journal of Cost Management, Spring, 38-49.

Cooper, R. (1990). Cost Classification in Unit Based and Activity-Based Manufactur- ing Costs Systems, Journal of Cost Management, 4(3), 4-14.

Cooper, R. & Kaplan, R. (1992). Activity-Based Systems: Measuring the Costs of Resource Usage, Accounting Horizons, 6(3), 1-11.

Daly, J. (2002). Pricing for Profitability: Activity-Based Pricing for Competitive Advantage, NY: John Wiley & Sons, Inc.

DeFranco, A. & Noriego, P. (2000). Cost Control in the Hospitality Industry, Upper Saddle River, New Jersey: Prentice Hall.

Garrison, R. & Noreen, E. (1997). Managerial Accounting, 8th ed., NY: Irwin McGraw-Hill.

Hume, S. (2002). Shape Shifting: In a Downbeat Economy, Top 400 Companies Focus on Acquisitions, Buyouts and Bankruptcies, Restaurants and Institutions, 112(16), 42-100.

Kaplan, R. & Cooper, R. (1988). Measure Costs Right: No longer. Journal of Manage- ment Accounting Research (Fall), 2-15.

Keller, B. (1994). Activity-Based Costing for the Hotel Industry, [Monograph]. Cornell University.

Kunst, P. & Lemmik, J. (1995). Managing Service Quality. London: Paul Chapman Publishing Ltd.

National Restaurant Association (2001). Retrieved April 4, 2003 from www.restaurant.org O’Guin, M. (1991). The Complete Guide to Activity-Based Costing, NY: Prentice Hall. Parsa, H. (2003). Retrieved September 15, 2004 from http://www.researchnews.osu.

edu/archive/restfail.htm. Quain, E., Sansbury, M. & LeBrutto, S. (1999). Revenue Enhancement, Part 4, Cornell

Hotel and Restaurant Administration Quarterly, 40(3), 38-47. Raab, C & Mayer, K.J. (2003). Exploring the use of activity based costing in the restau-

rant industry, Int'l Journal of Hosp. & Tourism Admin, 4(2) 79-96. Rotch, W. (1990). Activity-Based Costing in Service Industries, Journal of Cost Manage-

ment, Summer, 4-14. Schmidgall, R. (1997). Hospitality Industry Managerial Accounting, 4th ed., Lansing,

MI: Educational Institute American Hotel & Motel Association. Turney, P. (1991). Common Cents. The ABC Performance Breakthrough, Cost Tech-

nology, 13-17. Wilke, E., Josiam, B., Upchurch, R. & Willems, J. (1996). Restaurant Attrition: A Lon-

gitudinal Analysis of Restaurant Failures, International Journal of Contemporary Hospitality Management, 8(2), 17-20.

Zeithaml, V. & Bitner, M. (2003). Services Marketing: Integrating Customer Focus Accross the Firm, 3rd ed., New York: McGraw Hill.

RECEIVED: 10/08/05 REVISIONS RECEIVED: 12/29/05

ACCEPTED: 01/17/06

doi:10.1300/J149v08n03_01

Raab, Shoemaker, and Mayer 15