It might not surprise you to know that about 60% of restaurants fail within three to five years of opening, but what might amaze you is that many of those failures have nothing to do with the popularity or quality of the restaurant but rather with bad financial management.
Even a poorly run restaurant can survive for a while with enough customers. Ultimately, though, if you lack a basic understanding of cost analysis or don't keep a close eye on your bottom line, failure lurks right around the corner. Avoid financial pitfalls and find sustaining success by understanding the following costs:
- Cost of goods sold
- Supplies and small wares
Overview: What are restaurant costs?
Restaurant costs are various expenses incurred while maintaining your business. These expenses do not include the costs of opening a restaurant but instead the costs of managing the day-to-day operations.
How to calculate your restaurant's operating costs
Operating costs include everything it takes to run your restaurant. Begin by arming yourself with the right information and then apply that data on a macro and micro basis to get your costs as a percentage.
Below are two examples:
- Macro figures: When determining monthly food costs, you need two amounts; the amount you spent on food (the cost of goods sold, or COGS) and the amount of food sold. Then use a variable expense ratio formula to get your costs in a percentage.
- Micro figures: Break down food costs more specifically by menu items using the same formula. This will help you determine which menu items are most profitable and which need revamping.
Let's take a closer look at the five most important restaurant costs and how they affect your business.
1. Cost of goods sold
The cost of goods involves all the things used to create your final product. The COGS covers items such as the ingredients used to create your meals, along with liquor, beer, wine, beverages, and mixers.
You might sell $25,000 in steak dinners each month, but if those steaks cost you $24,000, you have a big problem. Start by knowing your target cost percentage and then prepare to make ongoing adjustments since prices fluctuate constantly.
When making menu choices, price point calculations are just as crucial as restaurant concepts. Allowing the hard data to influence your options will help drive profits up and risks down. Of course, costs can vary depending on the type of restaurant you have and the grade of alcohol you serve.
The average cost percentages based on sales for most full-service restaurants are:
- Food: 28% to 32%
- Bottled beer: 24% to 28%
- Draft beer: 15% to 18%
- Wine: 35% to 45%
- Liquor: 18% to 20%
2. Supplies and small wares
Supplies are everything else used in your restaurant to serve your customers. Although the initial expenses for items used to set up your kitchen and dining room will come out of your startup cost budget, these products will break down with normal wear and tear, and the costs to replace them needs consideration. Some of these include:
- Paper products
- Bathroom supplies
- Cleaning products
- Small appliances
- Salt and pepper shakers
- Kitchen utensils
3. Labor expenses
Labor costs include wages and salaries, benefits, and payroll taxes. Next to the cost of goods, payroll costs are the major considerable expense you'll incur. The average you should expect to pay in labor expenses is 30% of your total sales.
Similar to COGS, you can break down labor costs on a micro-scale. Calculate your expenses by positions, such as:
- Back of house
- Front of house
With varying schedules, labor costs can quickly get out of control, so diligently audit this expense using payroll software or outsource it to a payroll company. Software, such as ADP or Gusto, not only takes care of payroll but also offers administrative management and human resources tools.
4. Occupancy costs
Restaurant occupancy costs are those expenses related to occupying a space, including rent or mortgage payments, property taxes, insurance, and utilities. Most of these expenses are fixed and determined before opening, but the average cost of utilities will vary from month to month.
This expense ranges from 8% to 10% of your total revenue. If you pay more than that, the only solution is to increase revenue. Occupancy is one of those hard lines where there's not much room to decrease costs once you're in the building.
It's imperative to understand how to calculate occupancy costs by square footage during the startup period and then work to meet or exceed that percentage as you grow. In most cases, full-service restaurants need to generate at least $150 of sales per square foot to turn a profit.
Marketing includes anything a restaurant uses to get guests in the door. It typically accounts for 3% to 5% of your total revenue. Allocate these funds proportionally to your sales volume, which might vary monthly. Restaurant marketing expenses may include:
- Social media posts, monitoring, and campaigns
- Print and digital advertisements
- Print table tents
- Loyalty program promotion
- Marketing agency or third-party fees
- Email campaigns
Tips for cutting down on restaurant expenses
Managing expenses are among the top challenges facing restaurants and can be what's standing in the way of high-profit margins. However, there are several ways to reduce expenses without compromising quality. Use these suggestions to combat mounting costs.
1. Hire the right staff
Employees can make or break you financially and building the right team takes time and attention. An employee retention policy is a great idea, but you can also save money by:
- Hiring a qualified and experienced manager, laying out clear expectations, and always holding them accountable.
- When hiring friends or family members, it can get complicated if they aren't up to par, so be cautious.
- Cutting the dead weight and rewarding the stars.
2. Shop vendors
Once a vendor has your business for an extended period, they tend to become friendly and familiar. Don't allow yourself to get comfortable. Shopping competing vendors may be a pain, but costs can vary significantly. You might find that buying from your buddy is costing you much-needed profits.
3. Take advantage of specials
Buy in bulk when it makes sense. Take advantage of the "buy one, get one free" deals. Just don't leave yourself short financially. If you can't make payroll because you spent too much on vodka, you may be the only one left mixing the cocktails.
4. Keep on top of inventory and control portions
Little things can add up to a whole lot of costs, so using the right restaurant management system to track expenses is essential. Taking proper inventory and paying attention to your portion sizes can make a huge difference. It's not just the missing bottles of vodka, but that large side of ranch affecting your bottom line.
5. Make technology work for you
With easy-to-use restaurant software, you can save yourself hundreds of hours and thousands of dollars. Also, learn about the things you already have. Your point-of-sale (POS) system alone can handle some restaurant accounting by forecasting future sales, calculating labor costs, and managing your inventory.
Increase your restaurant profit margin by keeping costs down
Growing your business isn't always about increasing revenue. Often it's just a matter of getting a handle on your expenses. It's easy to get caught up with clever marketing tactics or trendy promotions, but the secret to your success might be that POS system staring you right in the face.