Article

Five Financial and Operational Metrics You Ought to Know

You might have learned about the Rosetta Stone in grade school, a stone slab inscribed with text written in Egyptian hieroglyphs, Egyptian Demotic, and Ancient Greek. Its discovery made it easier for modern archeologists to read hieroglyphic writing.

Your financial data is not ancient-Egyptian text, but some operators treat it as such. Just as the Rosetta Stone unlocked the mystery of hieroglyphics, with a little understanding of how to look at your numbers, you might unlock information that can help you improve operations and squeeze a few more points of profit from your sales.

In this article, we review examples of easily calculated finance and operations metrics that can tell us a lot about the health of our businesses. We examine how often to crunch these numbers, and what new relevance these metrics take on in the current operating environment.

Your numbers tell a story, if you know where to look. The sad reality is that many restaurant operators don't know where to look. Or they chase industry benchmarks that don't align with their concept, rather than understanding the story these metrics tells us about their performance.

The current operating environment is a challenging one. Pent-up consumer demand post-COVID-19 has diners flocking to restaurants, but an industry-wide labor shortage has many feeling like they're missing the moment. Rising inflation and an interrupted supply chain force operators to absorb price hikes or pass the increased cost on to their customers. Independent operators are trying to remind customers what they love about a favorite place while they get new hires and veteran hands up to speed, so their concept can provide the customer experience it was known for.

These metrics are not the only ones you should track. The value of this article, we believe, is to show you how easy it is to learn a lot about your business's ability and productivity with simple math.

Prime Costs to Total Costs

Prime costs are the cost of goods sold (COGS) plus labor. Operators are feeling the pinch on both of these at present. Food cost spikes are happening because of supply chain shortages and inflation, both of which are outside of operators' control. "Labor is costing us more, and I'm of the opinion it should cost us more. We are having trouble getting people to work in restaurants and they're seeking a fair wage," says Stephani Robson, a senior lecturer at Cornell School of Hotel Administration. The ratio of prime costs to total costs "has got to be below 70 and you want it below 65 [but] going forward, it's got to be below 65 and you want it below 60," says Robson. Casual concepts tend to have lower prime costs than fine-dining restaurants. Some concepts, like steakhouses, will have higher prime costs than others.

It's important for operators to know prime costs as a percentage of total costs so they can make adjustments. Robson recommends looking at food costs on a weekly basis and labor costs every day. Many POS systems provide labor cost information. Checking labor frequently allows operators to make adjustments based on the projected demand for that role or day of the week. Prime costs are "the only truly controllable expenses you have," and operators will "have a very tough time being profitable if [they] can't keep those in line," Robson says.

The industry-wide labor shortage means that operators have little room to maneuver when it comes to controlling labor costs. Robson tells operators not to worry too much about high labor costs. The restaurant industry "doesn't have a great track record" when it comes to labor, and "this is not the time to nickel and dime your employees," she says. Rather than cutting labor costs, operators can change their perspective. These higher-than-usual labor costs represent an investment in a more efficient future. Training new hires, offering a hiring bonus, or rewarding loyal employees with a retention bonus is an investment in the business. If an operator is constantly having to hire because new employees leave after a few weeks for a $0.50 raise somewhere else, Robson believes it's a clear sign that it's time to raise rates.

Conventional wisdom tells us operators should under- stand whether their prime costs fall in line with the average for similar restaurants. If prime costs exceed the recommended ratio, it's a sign that it's time to either trim food costs or labor. David Hopkins, president of Toronto-based hospitality consultancy The Fifteen Group takes a different tack. "When people try to target industry norms, it doesn't relate to their operation," he says. Many variables go into labor costs, from the style service to the layout of the concept to check averages.

DO THE MATH!
How to Calculate Prime Cost
Prime Cost = Total COGS + Total Labor Prime Cost as a Percentage of Sales = Prime Cost/Sales
Example: Bluefish Grill P&L COGS = $39,000
Labor Cost = $12,000 Total Sales = $80,000
Prime Cost = $39,000 + $12,000 = $51,000
Prime Cost as a Percentage of Sales = $51,000/$80,000 = 63%

On average, prime cost as a percentage of sales should not exceed:

• Table-service - 65% or less (total sales)
• Limited-service - 60% or less (total sales) As prime cost exceeds the above levels it becomes increasingly difficult to achieve and maintain an adequate bottom-line profit in most restaurants.

Inventory Turnover

Inventory turnover shows how many times operators sell and replace their inventory within a set period of time, say one week. Operators can add up the inventory at the beginning and end of a time period, then divide it by two to get the inventory turnover. Weekly is an ideal frequency for checking inventory turnover. As a rule of thumb, fresh items should be used within seven days.

The right inventory turnover will vary between concepts. A fast-casual salad restaurant or poke shop will turn over items much more frequently than a concept that depends on frozen fare.

Instead of comparing their concept with others, operators should track how this figure changes for them over time. If inventory is turning over rapidly, sales might be booming or the concept might be ordering too little. If inventory is turning over slowly, the concept is either over-ordering (in which case it's time to cut back) or sales are slow (and it's time for a marketing push).

Accuracy of inventory is important, so employees should be trained on the right way to do things. It takes more time to open a case of eggs to count how many flats are inside than to guesstimate, but guessing skews the results over time.

Hopkins doesn't think operators need to worry too much about turnover. Food, liquor and beer tend to turn over fairly quickly. The one beverage he does recommend tracking is wine, which "can be a challenge in higher-end restaurants. There's a balance between having a great wine list and a lot of different options and not having $400,000 tied up in inventory," he explains. Rather than stress about ratios, he recommends evaluating how much money is tied up in products, like wine.

DO THE MATH!
An Easy Way to Evaluate Your Inventory Levels
An easy way to get an instant "read" on whether you're carrying an appropriate amount of inventory is to calculate your "number of days of inventory on hand."
It tells you how many days your existing inventory will last (assuming you're carrying exactly the right mix of products) based on how much food you're using in an average day (your average daily food cost).
Calculating "number of days of inventory" on hand is a two-step process:
STEP 1: Calculate Average Daily Food Cost
STEP 2: Calculate Days Sales in Inventory
Example: You need the following information to calculate your number of days sales in inventory.
You can usually get it right off your financial statements:

• Number of days in the period 30
• Ending food inventory (on the balance sheet)$10,000
• Food cost (on the P&L) $30,000

STEP 1: Calculate Average Daily Food Cost -$30,000 / 30 days = $1,000
STEP 2: Calculate Days Sales in Inventory - $10,000/ $1,000 = 10 days' worth of food on hand.
This tells you that at the end of last month you had about 10 days' worth of food on hand. For most restaurants that's too much food.
In full-menu restaurants, most operators optimize at around 6 to 7 days of food inventory on hand. In other words, they turn their entire inventory every week or so. There may be extenuating factors that might drive inventory requirements higher such as infrequent deliveries, a high number of products on hand (making everything from scratch) or having to stockpile one or more products due to availability concerns. But generally, six to seven days is a pretty good rule of thumb.
For operators with a limited-menu, generally quick-service restaurants, three to five days of food on hand is usually considered adequate but not excessive.
In the above example, having 10 days' worth of inventory, would probably indicate that there's too much food on the shelves. If operationally feasible, lowering inventory levels to six or seven days of sales would cause food cost to drop immediately, everything else being equal.

Sales Per Square Foot

Sales per square foot is straightforward to calculate: divide sales in a given time period by the restaurant's square footage. "You want that number as high as possible," Robson recommends, particularly if this ratio plays into their rent. A decreasing ratio can indicate when a concept is heading toward trouble. A rising ratio suggests profitability. Understanding how this ratio changes over time is helpful, and operators should track it on at least a monthly basis.

If this number isn't what an operator hoped to see, they can change the layout of the space by putting in more tables. Where a concept can get into trouble is focusing solely on sales per square foot without an understanding of how this can impact the guest experience. Trying to push too many sales out of the square footage leads to a poor guest experience when tables are packed together tightly. Squeezing the back of the house means "you end up with unpleasant or unsafe working conditions because things are too tight back there," Robson warns.

Concepts continue to do more delivery and takeout than before the pandemic. These should absolutely be considered when looking at sales per square foot. After all, takeout and delivery orders take up kitchen and counter space. "It's plating, just in a different form," Robson says. Plus, there's storage required for food items and packaging. Concepts that do a lot of delivery orders may find that it's increasing their labor costs. Robson mentions a New York City fast-casual concept, Dig In, which was popular with the Midtown Manhattan lunch crowd. "They had such demand for delivery and pickup, they had to create a second line as well as an expediter to get delivery stuff out the door," she says.

Creating a second expediting station to accommodate delivery relieves pressure in the back of house, which can help ensure a positive customer experience for both dine-in and delivery orders. Trying to do it all out of one line can slow down service if you don't have the capacity to accommodate both.

DO THE MATH!
Sales Per Square Foot = Annual Sales /Square Footage
In most cases, full-service restaurants that don't generate at least $150 of sales per square foot have very little chance of generating a profit. For example, a 4,000-square-foot restaurant with annual sales of anything less than $600,000 would find it very difficult to avoid losing money. This works out to $50,000 in monthly and $12,000 in weekly sales.
Limited-service restaurants that generate any less than $200 of sales per square foot have little chance of averting an operating loss.
Industry averages reveal that limited-service restaurants tend to have slightly different unit economics than their full-service counterparts. Higher occupancy costs (on a per-square-foot basis) and lower check averages are two of the primary reasons for this difference.
At sales levels of $150 to $250 per square foot (full-service) and $200 to $300 (limited-service), restaurants with effective cost controls may begin to approach break-even, with some well-managed operations able to achieve a net income of up to 5 percent of sales.
At sales levels of $250 to $325 per square foot (full-service) and $300 to $400 (limited-service), restaurants may see moderate profits, which are defined as 5 percent to 10 percent net income (before income taxes) as a percentage of total sales.
High profit can be defined as sales levels more than $350 per square foot (full-service) and more than $400 (limited-service). Generating sales at these levels affords the opportunity for some operators to generate a net income (before income taxes) in excess of 10 percent of sales.

Revenue Per Seat and Sales Per Labor Hour

Traditionally, revenue per seat looks at the amount of revenue per seat in the restaurant in a given time period. When operators know this metric, they can evaluate the costs and benefits of adding more seats or expanding the concept.

In the current environment, revenue per seat isn't as helpful as it used to be. Hopkins suggests a better metric is revenue per cover count, or check averages. This is helpful to check over prior years or prior seasons when, for example, a restaurant is doing a menu change. "If [the check average] was $42 before we did the menu change and now it's $36, that might be a problem, so understanding the revenue and cost/guest can be a good gauge in terms of how you're doing," Hopkins says. Drilling down further, he suggests periodically checking at the operational costs per guest for things like linen, smallware replacement, or utilities.

Robson doesn't think revenue per seat is particularly useful when so many concepts are bringing in revenue outside of seats, like through delivery. She prefers to look at revenue with respect to time because "restaurants that are sit-down restaurants sell time, not food." Sales per labor hour is an effective metric, as it gauges employee productivity.

Consider a steakhouse. It's expensive, so diners tend to come for special occasions and stay for an hour or more. A neighborhood burger joint won't be that profitable if the average table turns over every ninety minutes, but a steakhouse can absorb that given the premium food and beverage costs.

It is tricky to determine how much customers are spending every minute. POS systems don't calculate this for operators, though some come close. Toast, for example, gives the duration of the ticket time so operators can extrapolate from there.

When you have an idea of revenue over time, you can examine ways to make the restaurant more profitable. Robson illustrates with an example. Consider a good server who seems to close her tables fast whenever she's working a particular section. While closing tables too quickly can affect the customer experience, there are little efficiencies that improve the customer experience. Guests appreciate it when servers take timely drink orders or close out checks right away. Shaving time off every table means more revenue from that section than when a slower server works.

When operators understand these patterns, they can look at what the efficient server is doing that can be used in training other servers. Similar logic can be applied to other roles, like host or expeditor. The metric becomes "an interesting opportunity to improve employee performance" and become more profitable, says Robson.

DO THE MATH!
Sales per labor hour = Total amount of revenue earned by the number of labor hours worked by all employees

Example: Sales per labor hours for the week

Weekly sales = $25,000
Number of labor hours worked by all employees = 110
Sales per labor hours for the week = $227

By tracking this metric on a weekly basis, you can measure labor productivity. Fluctuations might prompt inquiry into staff levels or areas of inefficiency that need to be addressed. It also might help you determine if gains in sales per labor hour might justify investments in labor-saving technology, such as server hand-held electronic order and credit card processing pads.

Current Ratio of Assets to Liabilities

The current ratio of assets to liabilities, also called the "current ratio", communicates the financial and operational health of the business. Knowing this number helps operators capitalize on what's working for them and take early action to mitigate the harm of potential threats and weaknesses. Hopkins doesn't find this to be "an important metric for a restaurant in terms of how they operate," and doesn't think it's critical to track in the day to day. When the current ratio becomes important is in situations like the previous year, where "it plays into how you survive and your cash and assets available to help" survive threats, he explains.

Current ratio = current assets / current liabilities. You find information on your current assets and liabilities on your balance sheet. To calculate the current ratio, divide the current assets by the current liabilities. Assets that should be included are anything prepaid, current inventory, and cash or cash equivalents on hand. Current liabilities would include any lease obligations or debt, accrued expenses, accounts payable, or taxes. Avoid including long-term assets and liabilities in this calculation. Long- term assets are those that couldn't feasibly be cashed in quickly, like restaurant equipment. Long-term liabilities likewise have a far-off time horizon. An example might be a bank loan.

A financially healthy restaurant has a current ratio greater than one. This indicates that the concept can make payroll, pay its bills, and purchase supplies. A restaurant is in financial trouble when the ratio is less than one. It's time to worry about meeting payroll obligations and keeping the lights on.

Consistency is key. When operators make it a habit to track these numbers regularly, they'll have a better understanding of patterns and seasonal shifts. They'll know when it's time to act by raising prices and when there are temporary fluctuations that ultimately won't threaten the health of a strong business.

DO THE MATH!
Current ratio = current assets/current liabilities
If your restaurant had $15,000 in current assets and $22,000 in current liabilities. Its current ratio would be:
Current ratio = current assets / current liabilities = $15,000 / $22,000 = 0.68
That means that the current ratio for your business would be 0.68.
A company with a current ratio of less than one doesn't have enough current assets to cover its current liabilities. A current ratio of one is considered low in many industries; however, restaurants typically collect payments from customers quickly, but can extend the time to suppliers, like the retail and food industries. A relatively low current ratio might indicate your restaurant is good a keeping inventory low. Inventory is included in current assets.

Know Your Financial Statement Particularly Your P&L

While Hopkins finds many of these metrics helpful, he stresses that the biggest thing operators need to look at is the income statement, more commonly referred to as the profit-and-loss statement or P&L. Many operators don't do this properly. Some don't even have a budget, good bookkeeping, or accounting. Without these things, it's impossible to understand the financial health of the restaurant or make decisions about profitable operations. "You need to start with a budget and figure out what your profit for the year is going to be based on the budget. If you have variances, make adjustments," he says.

If you don't know how to read these numbers, make it a priority to surround yourself with someone who can, like a skilled restaurant accountant. Have them walk you through the calculations until you can do the work yourself. This way, you won't have to wait to check in about the business health. You can review data and make decisions to respond to threats and capitalize on opportunities in any business environment.

How to Make Your Profit-&-Loss Statement One of Your Most Important Management Tools

By Jim Laube

Creating and maintaining a profitable restaurant depends on successful decision-making and management of several key areas.

The most commonly cited areas have to do with service, food, concept, location and cleanliness. While managing these issues is important, even crucial to the success of most operations, so is paying attention to and managing the numbers or the financial side of the restaurant.

Restaurants don't go out of business because they have slow service, a poor location or even mediocre food. Restaurants go out of business because they fail to make a profit. Being on a busy street and having great food and attentive service helps, no question; but everyone knows restaurants lacking in these areas have managed to make money and stay in business for years. Conversely, there have been scores of restaurants with more than adequate food and service, and even a prime location, that are long gone.

There is one common characteristic that I have noticed from working with hundreds of independent restaurant operators over the past two decades. The really good ones, those who manage to be successful year after year, are not only adept at creating high standards of service and food quality in their restaurants, they also understand and pay close attention to the financial side of their business.

These financially astute operators know that every decision and activity that takes place on the operational side of their restaurant is eventually reflected in their numbers and the one report that is most indicative of how well (or how bad) their restaurant is being managed is their profit-and-loss statement (P&L).

Your P&L should tell you whether your restaurant is profitable, if your costs are too high or if your sales are too low and whether you're making progress or falling further behind. In short, your P&L should be able to tell you where your operational challenges are and where you need to focus your attention.

WANT TO KNOW MORE?

KEEP LEARNING…
The Value of Calculating Food and Beverage Cost to Sales and Specific Food Cost to Total Cost

Just as operators calculate food costs as a percentage of overall costs, it's helpful to calculate food and beverage expenses as a percentage of sales. This can be by category, like seafood, or by a particular menu item, like scallops. Operators who understand the profit margin across a category or ingredient can make data-driven decisions around pricing. "We recommend that every two weeks you do a full inventory count and review those costs. If you're busier, definitely every week," says Hop- kins. He doesn't find benchmarks that helpful. Instead, he recommends that operators understand the patterns within their unique concept.

The benchmark for food and beverage cost should not exceed 30 percent of sales, though Robson notes that there's greater wiggle room for beverages. For example, "if you're a wine forward concept, the cost per serving is going to be higher than for beer and mixed drinks," says Robson. Streamlining a large wine list can curb costs without changing the signature offering for a wine bar, for instance. So too can curating offerings or experimenting with other revenue streams, like a wine education program or special wine dinner.

Historically, operators checked food cost as a ratio of total cost to determine whether to keep or replace a particular menu item. An item that had an expensive cost relative to food cost could be replaced if it didn't sell well. If that item was very popular or something the concept was known for, replacing it didn't always make sense. Menu engineering helps operators save money by cross-utilizing the same core items across their dishes. Menu engineering with an eye toward costs can preserve resources by consolidating expenses.

In the current environment, knowing specific food cost to total food cost helps operators understand their costs amid a landscape of supply chain problems and rapid inflation, both of which are affecting items that operators buy every day, says Robson. Her recommendation is to check the ratio of specific food costs to total costs at least once a month.

When the food cost is more than 30 percent of sales, the path to profitability curves uphill. In the current environment, pricing spikes and ingredient shortages cause fluctuations in the ratio. These tend to affect concept-driven operations, like the chicken wing restaurant that has to absorb the increased costs of its main ingredient or raise prices. Other concepts can change the menu to use fewer expensive ingredients as a way to manage costs when there is increased volatility.

The price of proteins, in particular, is increasing. Some operators might wonder whether this is the time to put plant-based menu items front and center. This can work, but it isn't a silver bullet. Plant-based items tend to have higher labor costs. It takes more work to turn veggies into a delightful meal. Prepared plant-based items aren't necessarily cheaper than meat alternatives. Still, these items can appeal to diners who want more plant-based foods while helping a concept avoid price spikes. Robson notes that health-conscious diners recognize and "are willing to pay a premium for items perceived as more healthful or environmentally friendly."

While eliminating expensive menu items is a way to get around price spikes, it isn't going to work for every concept. If an item on your menu is popular with your guests or critical to your concept, you likely won't want to "86" it. Chicken wing restaurants, for instance, can't do away with their main attraction just because prices have nearly doubled due to labor shortages on chicken farms.

With short-term price increases or spikes on main attractions that operators want to keep, there are two choices. Operators can absorb the higher costs, which makes sense if it's a short-term issue or a main attraction (like the chicken wings), or they can raise prices. Hopkins thinks the present environment is actually a good time for operators to raise prices, so long as they do it strategically. Increasing prices can offset higher food costs and boost the bottom line. He recommends price increases of seven to 10 percent for concepts that can "[deliver] an exceptional service and guest experience."

Hopkins says he's recommending all his clients raise prices. So far, he says, his clients are not getting any pushback from customers. "People are excited and eager to get back to restaurants" and "a lot of restaurateurs have had to close due to COVID, so supply is lower than it was." With there's pent-up demand and less supply, operators have the opportunity to readjust prices to better absorb some of the higher operating costs of the current environment.

KEEP LEARNING…

RAISE YOUR PRICES! A TRAINING VIDEO

While we know that every market is different, if you really do provide your guests a superior guest experience, you should be charging more, maybe much more, than your mediocre competition.

You and your people work extremely hard for all you do and the experiences you create so don't be timid about recognizing your worth and reflecting it in your prices. This video shows why it's very likely your guests will gladly pay more!

KEEP LEARNING…

How to Setup and Use the Weekly Prime Cost Template

The Weekly Prime Cost Template is a series of integrated worksheets designed to generate one of the most valuable weekly reports in any foodservice operation -- the Weekly Prime Cost report. This course will lead you step-by-step through the process of setting up the template and using it. The Weekly Prime Cost Template is series of integrated worksheets designed to efficiently capture sales, purchases, payroll, and inventory information to generate one of the most valuable weekly reports in any foodservice operation -- the Weekly Prime Cost report. The template comes in versions for full-service restaurants serving alcoholic beverages and limited or quick-service restaurants.

This course will lead you step-by-step through the process of setting up the template and using it. We'll help you decide the appropriate version of the template for your restaurant, including tips on modifying it to fit your exact needs.

• How to Setup and Organize a Weekly Prime Cost System
• Step-by-Step Instructions for Recording Weekly Activities
• Using the Prime Cost Reports to Spot Potential Cost Control Problems
• How to Use the Trend Analysis to View Performance over Several Weeks
• Tips on Creating New Reporting Week and Saving History