According to National Restaurant Association, there are more than one million restaurant locations in the USA and this number is growing rapidly. It is all-too-easy to imagine what kind of vigorous competition the owners must deal with. Not only to keep their heads above water but also to stand out in the crowd of competitors, restaurateurs have to be clear about the effectiveness of their business. According to Ohio State University research, 60% of new restaurants don’t make it through the first year, and 80% fail over the next five years. One of the main reasons for failure is that owners don’t pay much attention to tracking performance metrics; as a result, problems are not identified in time. A restaurant business is a complex mechanism, which involves many smaller mechanisms, and one of them is controlling your KPI (Key Performance Indicators). Of course, you need to know how to calculate an average check in your restaurant but there are more things to keep track of. These metrics allow you to control restaurant profit, finding weak spots and ways to improve. A good restaurateur will be immersed in the work processes of his restaurant and understand the health of the business. If you are not yet familiar with restaurant performance metrics, here are a few to pay attention to.
Food cost percentage
Food Cost is a tool that helps control the cost of every dish and sort out things to enhance the profitability of the restaurant and most restaurant POS systems help owners to deal with it. This indicator helps you establish the price of a dish properly. It can be used for both specific dishes and for a specific period of time. Compared to other expenses, food cost represents one of the largest metrics—on average it consumes 25-30% of total restaurant costs. But if other large costs (rent, salary, etc.) are mostly permanent, food cost depends on ingredient prices and can be unpredictable. So there is always the possibility that the metric rises or falls compared to previous months.
It’s hard to manage a successful restaurant and not be aware of the actual cost of your menu items. It’s definitely something you need to keep an eye on. To calculate the food cost percentage on a constant basis use this formula:
Many factors influence the result of these calculations, and you won’t have the same result every time, but this is not a problem. No one can set a particular food cost percentage, but still, the indicator may vary from 25% to 35%. A lower number means a higher profit, though if you get a number that doesn’t fit this range don’t panic; check the possible reasons – after all, perhaps everything is okay. It all depends on several factors, such as ingredient prices, recipe changes, menu prices, sales, discounts etc. To control food cost consider using alternative ingredients, or change the price on the menu, minimize food waste in the kitchen, and so on. We’ve written in more detail about food cost and the methods to calculate it in our article How to calculate food cost for a recipe.
Menu item profitability
To control menu profitability, in addition to food cost, you need to know what menu engineering is. Basically, this is the process of pricing, costing, and estimating your menu items. The basis of menu engineering is the contribution margin which is the ratio of the food cost of the dish to its price on the menu. Let's look through an example: On your menu you’ve got smoked salmon for $15; this costs you $8 to prepare. You also have burger for $9, which costs you $2.5. Which do you want to sell more of? You think salmon, right? Actually, taking into account that in the first case, the food cost percentage is 53% and in the second 27%, you get almost the same profit by selling both. The contribution margin shows how much money each dish brings into your pocket and which items are more popular than others. Menu engineering classifies items under four categories according to their margin and their popularity:
STARS are popular among guests and profitable for the restaurant.
PLOW-HORSES are items guests love but they don’t bring money into the cash register. You don’t have to remove them completely, but you need to think of ways to improve them (raise the menu price or change their ingredients).
PUZZLES are the opposite of PLOW-HORSES. They are not easy to sell but bring higher profits. The only thing you can do is stimulate your guests’ interest in such items.
DOGS are neither popular nor profitable. Can we say they need to be removed from the menu?
After menu engineering it is easy to arrive at the obvious conclusion: get rid of the DOGS; work on balancing PLOW-HORSES and PUZZLES; keep the STARS.
Labor cost percentage
This restaurant performance metric varies across the range 25%-35% of all costs and along with food cost joins the list of the biggest restaurant expenses. It is always hard to understand how to manage restaurant labor cost and set salaries because they depend on so many aspects such as the job description, experience, location, what your competitors offer, etc. Labor cost is important and helps you to figure out the right salary for your employees. You can calculate it for any period of time, for example, a week, a month or every quarter. To do this, you need to make a table and enter all your employees, hours worked, salary (hour or monthly rate), other employee benefits and all the taxes you pay for them (Social Security Tax, Medicare Tax, Local Payroll Taxes, etc.). To find out labor cost for each employee use this formula:
If you have salaried employees, then divide their annual salary by 12 or by 52 (depending on the period you are using for the calculation) and find the required labor cost. Sum up all labor costs per worker to get a total number and calculate the labor cost percentage:
Ideally, the result should vary between 25%-35% but if it doesn’t, you don’t have to start firing people. Logically, the more customers you have in your restaurant, the more waiters you need in the restaurant. It is not going to work if 30 tables are served by 2 waiters. Also, you need to take into account employee turnover rate, a calculation used in the restaurant total sales. You can spend the same amount of money on labor costs, say $2,000, but if the restaurant profit decreases from $6,000 to $3,000, your results will be unsatisfactory. In this case, every action should be aimed at improving sales.
Employee turnover rate
Statistics show that most people get their first job in the hospitality sector, and the foodservice industry is on this list. Therefore employee turnover is a common problem in the restaurant business. Every owner needs to know that a high level of employee turnover costs them money, as well as time searching for new candidates, which involves interviewing, hiring expenses and, of course, training and orientation costs. Sounds like a lot of work that could be avoided. That is why staff should be selected very carefully at the interview stage and, subsequently, they should be well motivated and provided with decent conditions of employment.
To ensure that your restaurant is doing well you need to track a simple measure. Employee turnover, also known as the employee turnover rate, basically means the percentage of your workers who were fired or just left. Once again, as with every previous restaurant business performance metric there is no perfect rate for this indicator and it always depends on the industry. For example, the National Restaurant Association reports that the restaurant business overall employee turnover rate in 2016 was almost 73%. But this doesn’t mean every single establishment had this rate, it’s always individual.
First, you need to know how many employees on average you had during the period you want to measure (divide the sum of the initial and the final number of employees by 2) and the number of those who left. Use this formula:
Let’s look at an example: you have 50 employees in the restaurant at the begin of the autumn and 60 at the end, so the average number is 55. During this period 6 employees were separated.
The lower the result you get, the better for your restaurant. It means that you are on the right track.
Cost of Goods Sold (COGS)
COGS are direct costs that take into account the process of meal preparation in a restaurant. It includes the cost of raw ingredients, items purchased for resale, tools used to create the item and production overheads. Cutting a long story short, this metric shows how much food and how many goods you sold to restaurant customers. For any business it is important to know the exact value of COGS, because it basically represents the inventory of your restaurant for a desired period of time (month, year, etc). When you aware of the metric value you’ll be able to find ways to deduct the costs of the items you sell and increase margins. For calculating COGS use this formula:
Beginning inventory. Most POS software allows you to see the dollar value of all items and goods. If you have one, it won’t be difficult for you to sum all the components and get a beginning inventory. Basically, this is the same number as the ending inventory for the previous period, so don’t duplicate the work and use what you already have. For example, the beginning inventory for December will be the ending inventory for November. It includes the money equivalent of the food and goods that were not sold in the previous month.
Your purchases. The purchases that you made after the beginning inventory.
Ending inventory. Similar to the beginning inventory, but at the end of period you want to calculate COGS for.
Let’s say your beginning inventory is $4,500, you purchased items and filled the storage for another $3,000 during the current period, and the ending inventory is $2,500, your cost of goods sold for that month is:
COGS = $4,500 + $3,000 - $2,500 = $5,000
The COGS is a very important indicator that leads to restaurant gross profit.
Positive gross profit is only the first step for a restaurant to achieve net profit. The gross profit should be large enough to cover general, administrative, commercial expenses, as well as development and marketing costs. The size of the gross profit indicates the effectiveness of management and the presence or absence of a long-term competitive advantage. It displays the profit that the restaurant acquired after cost of goods sold was accounted for and how much money the restaurant can use for paying off fixed expenses. For calculating gross profit use this formula:
For example, last month you took in total $20,000 and its COGS is $9,000. Then we have:
Prime cost is the biggest figure in your restaurant, which is about 60 % of all total sales. The indicator basically consists of the sum of other important restaurant indicators we have already talked about—labor cost and COGS. Prime cost doesn’t include equipment repair, furniture purchase, household-essentials (napkins, paper towels, etc.), party decorations and things like this.
Prime cost represents the main part of the restaurant costs and the ways the owner could reduce outlays and as a result increase revenue. You can't control fixed expenses such as rent or public services, but there is always at least one method you can impact on COGS. For prime cost calculation use this formula:
If your labor cost is $8,000, COGS is $14,000 and total sales are $40,000, we have:
To get a percentage you need to divide the prime cost on total sales for the same period of time:
We hope our little list of the most important restaurant metrics for successful businesses will help you figure out the gaps and fix them in the future.