Opening a restaurant is a big challenge that requires a huge investment of time and money. But the challenges don’t stop there—once open you have to focus on improving processes, managing labor schedules, and controlling restaurant costs.
Indeed, controlling restaurant costs is one of your biggest challenges. Not only do you have to manage many costs including, labor, equipment, and food—but you have to do it while dealing with inevitable price increases. Whether it’s food cost increases due to inflation or a labor cost rise due to rising minimum wage, cost increases, like taxes, are pretty much a guarantee in the restaurant industry.
So, how do you remain ahead of the curve? What costs do you focus on? How do you control these costs to stay profitable? This guide answers these questions and more. You’ll learn almost everything you need to know about restaurant costs so that you can remain profitable:
Table of Contents
- The Costs of Opening and Running a Restaurant
- The Difference Between Fixed and Variable Cost
- Understand And Calculate Your Prime Cost
- The 5 Major Restaurant Costs And How to Control Them
Let’s get started.
The Costs of Opening and Running a Restaurant
The total cost of opening a restaurant differs between restaurateurs due to factors like size, location, and concept. The upcoming section details these costs across two categories: restaurant startup costs and operating costs.
When reading this section keep the following in mind:
- Certain costs may not apply to you. For example, you may choose to lease and not incur construction costsThe cost ranges are only guidelines and your cost will differ
- The suggested expense to sales percentages are only recommendations
- Some costs will be both startup and operating costs. For example, though food costs are running costs, you should budget for beginning inventory when opening your restaurant
- Many of your startup costs will be one-off costs, though some are subject to annual renewals
Restaurant Startup Costs Breakdown
Use this following startup cost breakdown for guidance:
- Security deposit of $2,000 to $12,000 if you’re renting (varies by location)
- Loan down payment of 10% if you’re buying a buildingConstruction and renovation costs differ by location and contractor.
- Licensing costs:
- Business registration fees of $100–$1,200 plus renewals (vary by state)
- Liquor license costs of $50 to $300,0000 depending on license type and state
- Music license (ASCAP License, BMI License, and SESAC License) will cost you $200 to $2,000/year
- Building permit, health permits, food handler’s permit, zoning permit, and alcohol tax permit
- Professional services like bookkeeping, accounting and consulting (varies by location and the skill level of the expert)
- Restaurant equipment will cost $100,000 to $300,000 depending on equipment type, whether it’s new or used or if you choose to lease or buy
- POS costs starting at $600 for hardware (differs by vendor, solution, and number of terminals)
- Marketing costs before launch like signage and advertising
- Beginning food inventory
- First month’s rent, wages, and salaries
Restaurant Operating Costs Breakdown
These costs are the monthly costs of running your restaurant:
- Rent and utilities (electricity, water, internet, cable, and phone): 5% – 10% of revenue
- Food cost: 25% – 40% of food sales. This is only a guideline. Your restaurant is different so ensure you find your ideal food cost (discussed later)
- Labor cost: Roughly 30% of revenue including management salaries of 10%
- Insurance varies by provider and type. Property insurance, for example, will cost you $1,000 to $2,500
- Monthly marketing costs
- Miscellaneous expenses like breakage costs
The Difference Between Fixed and Variable Costs
You can group the above costs into two main categories: fixed and variable costs.
Fixed costs are easier to budget for when opening a restaurant because they don’t fluctuate much each month. They include rent, mortgage, salaries, loan payments, license fees, and insurance premiums.
Variable costs are harder to predict when opening a restaurant because they vary according to output. But, after several months you’ll quickly know what to expect each month. These costs include food, hourly wages, and utilities.
Understand And Calculate Your Prime Costs
Prime cost is the sum of direct labor costs and the cost of goods sold (CoGS). Cost of goods sold is the raw material cost of your beverages and food, and labor cost includes actual labor, employee benefits, payroll taxes, healthcare, and bonuses.
Prime cost does not include equipment and supplies, utilities, menu design, signage, decor or any other costs unrelated to the production of your product.
Prime cost is your most important key performance indicator. But why?
- Consist of your largest restaurant expenses and ensures you stay profitable
- Change constantly unlike fixed expenses that require monitoring and tracking
- Can be controlled by implementing labor and F&B cost control measures
- Affect almost every aspect of your restaurant
Simply put: Prime cost help you understand how profitable your business is
But How Do You Calculate Prime Cost?
Use this formula:
Breaking it down:
1. Calculate CoGS for a specific period using this formula:
Beginning Inventory of F&B + Purchases - Ending Inventory
For example, if your beginning inventory for February is $11,000, you purchased $4,000, and your ending inventory is $8,000, then your CoGS is $7,000 ($11,000+$4,000-$8000).
2. Calculate labor costs for the same period
Tally February’s total salaries and add total wages of hourly workers. You can calculate wages by multiplying the hourly rate by the number of hours worked. For example, if your monthly salaries are $15,000 and wages, $ 10,000, the total labor cost is $25,000.
3. Calculate prime cost
Your prime cost will now be $32,000 ($7,000 plus $25,000). On its own, this number doesn’t mean much. But, calculated as a percentage of sales, it becomes far more useful:
Prime Cost Percentage = Prime Cost ÷ Total Sales
For example, if February sales are $65,000, then your prime cost is 0.49 or 49% ($32,000 ÷ $65,000 x 100). This means that 49% of your revenue is used to cover prime cost.
The 5 Major Restaurant Costs And How to Control Them
Now that you understand the difference between fixed and variable costs and what prime cost is, let’s look at five major restaurant costs:
- Equipment and supplies
- POS systems
Restaurant Labor Costs
The following is an overview of the absolute basics of understanding and calculating your labor costs, for a deeper dive check out Restaurant Labor Cost: What It Is And 8 Ways To Control It.
Labor is crucial to the success of any restaurant, but it is also a substantial investment. And, if you’re not careful, labor costs can spiral out of control and negatively impact your profits. The good news is you can better manage labor cost with the right cost control tactics. But before you can implement these tactics you need a proper understanding of what labor cost is and how to calculate it.
What is Labor Cost?
Labor cost is more than hourly wages and salaries—it also includes:
- Overtime and bonuses
- Payroll taxes
- Health care
- Vacation and sick days
- Any other labor-related costs
Calculating Labor Cost
Calculating total labor cost, then is easy—simply tally the total from each of the above categories (if applicable). Consider the below example:
- Salaried and hourly employee wages: $150,000+
- Overtime and bonuses: $30,000+
- Payroll taxes: $30,000+
- Health care: $30,000+
- Vacation and sick days: $10,000+
- Bonuses: $10,000+
- Total labor cost= $260,000
But again, on its own, this figure isn’t very useful. Enter the labor cost percentage.
Calculating the Labor Cost Percentage
Labor cost percentage assesses how efficient labor is in generating profits.
Calculate it using the following formula:
Breaking it down:
Step 1: Gather sales data for a specific period
You can get this information from your annual income statement or sales reports. Let’s assume your sales are $950.000/year.
Step 2: Calculate labor costs for the same period
Calculate labor costs by adding wages, salaries, and other applicable categories. For this example, let’s use the total labor costs of $260.000.
Step 3: Divide labor costs by sales
This gives us a labor ratio of 0.274 ($260,000 ÷ $950,000)
Step 4: Multiply your labor ratio by 100
0.274 x 100 = 27.4%
It’s as simple as that. You can repeat the above four steps for any period—just ensure you calculate your labor costs and sales for the same period.
You’ll want to continually track your labor cost percentage to assess its movement. A constant upward trend should be a warning signal to get it under control. You may also choose to compare your labor percentage against industry averages. While averages are precisely that,—averages, they do let you know how you’re performing compared to restaurants in your industry.
Labor Cost Percentage Averages
Below is a breakdown of average labor cost percentages in Q4 of 2017:
- Quick service: 29.4%
- Fast casual: 28.9%
- Casual: 33.2%
- Upscale casual: 30.4%
- Pizza: 31.3%
The total average was 30.5%, which is a 0.7% increase from 2016.
4 Ways to Control Restaurant Labor Cost
You now know to calculate the labor cost percentage. But, what happens if your labor cost percentages continue to rise? An obvious reaction may be to schedule less staff or reduce wages. However, this can harm customer service and profits.
Luckily, there are better ways:
1. Train Staff
Proper training improves efficiency, which means you can have a leaner workforce without sacrificing customer service. So, train new hires properly by showing them how to use your POS, clearly articulate your customer service standards, and let them shadow other employees. Also, ensure all employees have access to your employee handbook to prevent any human error from costing you money.
2. Improve Employee Retention
The high-turnover rates are well-documented in the restaurant industry, with these rates exceeding 70% in 2016. What’s also well documented is that replacing existing employees costs more in the long run than retaining them. After all, training new hires is an investment of time, resources, and money.
Preventing these turnover rates, then, is a no-brainer. Here are a few ways to do that:
- Reward employees: Track sales reports to see who’s selling the most and recognize them publicly, offer time-off, or give a bonus
- Provide growth opportunities, so employees don’t leave because they feel like they’re stagnating
3. Audit and Improve Processes
Analyze all processes such as inventory management and time clocking to see if you can make improvements to boost efficiency. If, for example, you still rely on manually clocking out, consider a solution that digitizes the process and allows you to generate business data without having to wade through endless numbers.
And, don’t forget about streamlining your employee scheduling...
4. Optimize Employee Scheduling
Smart scheduling can save you time, improve workforce efficiency, and reduce labor costs. Unfortunately many restaurateurs:
- Waste time manually creating and flipping between schedules in spreadsheets
- Struggle to track repeated modifications to overtime and general schedules
- Use spreadsheets to compare actual vs. scheduled labor which leads to mistakes
- Jeopardize customer service by over- or under-staffing on manual schedules
The right tools solve these problems and simplify the scheduling process by letting you:
- Create schedules fast—in less than 30 min
- Crowd-source staff availability requests, reducing manager input to one-touch approvals
- Create optimized schedules, so you’re never over or understaffed
- Analyze labor reports and sales ratios to help you track and reduce labor costs
7shifts and TouchBistro are two such tools and the results speak for themselves: One restaurant owner saved a whopping 4% in labor costs after using these tools.
The bottom line: The right tools simplify scheduling and save you time while helping you achieve an optimum cost ratio compared to sales—all of which reduce operating expenses and boost profits.
Pro tip: Use this labor cost savings calculator to see how much you can save on labor costs using a scheduling app like 7shifts.
Restaurant Food Costs
This section gives you what you need to know to tackle food costs today. For the complete story, including 6 tips for reducing your food cost percentage check out Restaurant Food Cost: Master Operational Risk Today
There are two types of food cost restaurants need to manage:
Plate cost: the cost of a single dish
Period cost: The cost of food over a specific period, calculated by using the CoGS formula.
Why is Food Cost Important?
Food costs are one of the most important costs to track. It helps you accurately price your menu items, has a direct impact on your prime cost and helps you run a profitable restaurant.
But... How Exactly Do You Calculate Food Cost?
You can calculate the food cost percentage for both plate and period cost by using the following formulas:
Calculating Plate Cost
Follow these steps:
Step 1: Calculate the dollar cost of a single dish
This is tricky but doable:
- List the ingredient for a single dish: For example, if you want to determine the cost of a bacon and eggs breakfast, list bacon, eggs, toast, butter, and salt.
- Determine the cost of all ingredients: For example to calculate the cost of butter you could portion out 500g of butter. Let’s say you get 40 portions. Then divide the total cost of the butter by 40 to get the cost of that portion. If the total cost of the butter is $4.50, then the portion cost is $0.11 ($4.50/40).
- Add all ingredients costs to the total plate cost. For this example, let’s assume it’s $1.50.
Step 2: Divide the dish cost by the dish sales price and multiply by 100
Let’s assume the sales price is $5.00, then your food cost percentage will be 0.3 or 30% ($1,50/$5.00*100).
Calculating Period Cost
1. Calculate total food cost for a specific period
This is a little different and requires that we revisit the CoGS formula:
Food cost = Beginning Inventory + Purchases - Ending inventory
You can use this formula to calculate the period cost for any category in your restaurant, whether food, wine or beer. But for this example, we’re calculating the cost of food for February:
- February’s beginning food inventory = $4,000
- February’s food purchases = $20,000
- February’s food ending inventory = $3,000
- Total food costs = $21,000 ($4,000 + $20,000-$3,000)
2. Calculate total food sales for the same period
Calculate food sales (not total sales) for February. You can get this data from your POS system. Let’s assume it’s $60,000
3. Divide food cost by food sales and multiply by 100
February’s food cost percentage is 35% ($21,000 ÷ $60,000*100).
You’re likely wondering: “But is 35% a suitable number? And, how do I know I’m on track?”
Your Maximum Allowable Food Cost Percentage
And follow these four steps:
1. Tally labor costs and overhead expenses (exclude food costs)
2. Convert labor costs, overhead expenses, and profit goals to a percentage of total sales
3. Subtract these percentages from 100
4. The final number is your (Maximum Food Cost) MFC percentage
For example if:
Labor costs = $15,000
Monthly expenses= $10,000
Profit goal = $7,000
Total sales = $45,000
Then, the MFC percentage is:
100 - (($15,000 + $10,000 + $7,000) ÷ $45000))
100 - (0.71 × 100) = 29%
Cost Controls for Food Costs
Calculating your food cost percentage and tracking it, is the first step in controlling costs. Once you know how it changes over time, you can implement strategies to improve it. Here are several:
- Monitor the price of seasonal ingredients which often fluctuate in price and ensure your menu prices include these fluctuations.
- Build relationships with multiple suppliers to find the best market price for ingredients.
- Implement inventory management controls. For example, your chef should inspect the food when suppliers deliver so that it matches the actual order in terms of quality, quantity, and weight.
- Minimize food spoilage by finding creative ways to use ingredients close to expiry e.g., create a special of the day.
- Define reasonable portion sizes. For example, if servers regularly bring unfinished plates of food into the kitchen, it may be time for smaller portions
- Embrace zero-waste cooking by using every part of an ingredient
- Train staff to be mindful of controlling food costs
Restaurant Utility Costs
Restaurant utility costs include water, electricity, natural gas, internet, cable, and cell phone costs. Estimates and research suggest that many restaurants budget less 5% of their total costs to utilities and that the following averages and costs apply in the U.S:
- Commercial electricity usage is 10.56¢/kWh
- The monthly cost of electricity is $700
- The electricity cost per square foot per year is $290
- The natural gas cost per square foot per year is $0.85
Of course, these are guidelines—your utility cost will differ based on:
- Location: Different cities and states will charge different rates per kWh. New York, for example, charges $18.17, while North Dakota, $9.89
- Size: Larger restaurants require more power to operate
- Climate: Weather determines how much you spend on heating and cooling
- Infrastructure: Who your internet, cable, and cell phone provider is
Cost Controls for Restaurant Utilities
While you cannot always control utility costs, you can implement cost controls to reduce your utility bill:
- Negotiate package deals for your internet, cable and cell phone upfront.
- Negotiate rates throughout your relationship with these providers. Yes, this does work! In the 4-minute video below, Ramit Sethi provides a script you can use to help you negotiate these and other rates. This script has saved many people thousands of dollars in monthly bills:
- After calling the company, remind them you’re a loyal customer
- Mention you wouldn’t want to switch because of another company’s lower rates
- Ask them what they can do for you (i.e., give you a lower price)
- Cut certain monthly bills if you’re not using the service.
- Manage your consumption by:
- Installing occupancy sensors in walk-in coolers and storage areas that power down equipment automatically.
- Using energy saving appliances and light bulbs
Recommended Reading: How To Keep Restaurant Kitchen Costs Under Control
Restaurant Kitchen Costs
You shouldn’t underestimate kitchen and equipment costs when opening your restaurant. These include everything from small wares and furniture to big-ticket kitchen items likes ovens and fryers. Budget, concept and restaurant size will inform your equipment needs.
Although everyone's equipment needs will be different, expect to pay between $100,000 to $300,000.
Below is a cost breakdown:
- Smallwares like tableware, utensils, glasses, takeout containers and bar equipment: $80,000
- Kitchen Equipment such as ovens, refrigerators, freezers, and fryers: up to $100,000
- Furniture including tables, chairs, and shelving: $5,000 to $40,000
Once open, you’ll also need to budget to breakages like broken glasses. Budgeting for this may be hard at first, but you’ll quickly find a monthly cost baseline within a few months of being open.
Dive deeper in our follow up post on restaurant kitchen equipment costs and save time with specific tactics to help you find the right balance between renting, leasing, and buying.
Cost Controls for Equipment and Supplies
There are several ways you can minimize your equipment and supply costs.
Lease equipment: Leasing usually involves monthly payments with some giving you a buyout option at the end of the period. The biggest advantage is that you immediately get the equipment you need without a large capital outlay. A big downside is that you don’t build any equity.
Buy used restaurant equipment to save money. You can purchase from resales stores, auction houses, private sellers, and online suppliers. But ensure you do your due diligence—otherwise you may need to pay for repairs that cost more than buying the item new.
Regular maintenance. View major equipment in the same way you would your car: Service it regularly to prevent a sizeable one-off repair that could cost you thousands of dollars.
Minimize breakages. Broken glasses are part and parcel of running a restaurant. However, you can minimize damages by training staff on proper glassware handling and ensuring glass racks are the right fit and don’t put unwanted pressure on the glasses.
Restaurant POS System Costs
Today POS systems are cheaper thanks to cloud computing and the software as a service (SaaS) distribution model. But calculating your POS budget can be tricky.
Not only are there many vendors offering different prices, but these same vendors also have different packages—think "premium" or "basic." The key, then, to determining your total POS system cost is to:
- Understand all the cost components when buying a POS (it’s not just the hardware)
- Know your business needs (some POS systems offer advanced functionality you don’t need)
- Find a cost-effective solution that meets your requirements to help control cost
Check out our full breakdown of restaurant POS system costs and a guide to picking the right POS system for your restaurant.
Understanding the POS System Cost
POS system costs typically include:
- One-time hardware fees for cash drawers, POS display terminals, credit card readers, receipt and order printers, wifi routers, and workstations. This costs anywhere from $600 for a handheld table to $3,000 for an advanced system. The final cost will depend on the vendor, the number of POS display terminals and if you purchase extras like networking cables, receipt printers, and additional tablets
- Monthly software subscription fees of $70 to $400/month depending on the vendor, chosen package, and the number of terminals
- Support and maintainaince—usually charged monthly or per call-out
- Installation costs differ depending on scope, vendor, and the number of terminals
- Training costs are between $360 to $600
- Payment processing fees that vary depending on the payment processor
Payment processing fees are very much a part of the total POS systems cost. But understanding these fees and all the costs involved is tricky, especially as many payment processes are not transparent about these costs. In the following sections, we deconstruct these fees, so you understand what you’re paying for.
Payment Processing Fees Explained
There are many players involved in a single transaction:
- You, the merchant who accepts payment
- Payment processor that provides payment terminals, clears the transactions, and sends it to your bank.
- Card brand network: Credit and debit card companies like Mastercard and Visa
- Issuing bank that provides credit cards to customers.
And, a lot is happening in the background. Without going into too much detail, the payment processor manages the entire payment process, incurring several fees along the way:
- An interchange fee the card network charges the merchant which varies between 0.3% (debit card) and 1.8% (credit card)
- A small Card brand fee for every transaction regardless of card type
The payment processor charges these fees back to you with a markup on the cost (either a percentage or flat fee). While what you pay depends on the method they use to calculate the price - cost plus method, fixed fee, interchange differential or tiered fee— expect to pay between 2.2 and 4.5% for every transaction.
Reducing POS systems cost
You can reduce your POS systems cost by researching and comparing the prices of various vendors. While we understand that you want to run a tight ship, ensure you do the research and that the company you choose is reputable (check reviews online) and has a solution that's right for your restaurant. A solution that provides only the features you need with the option to upgrade as you scale. In the end, that’s far more important than cutting corners to reduce your costs.
Pro Tip: Find software that can, at minimum, offer these features:
- Inventory management
- Sales and labor reports
- Employee scheduling
- Staff management and communication
- Basic marketing
Recommended Reading: Are Restaurant POS System Costs Really Worth It?
Opening and running a restaurant is undeniably challenging. You have to find capital, manage employee schedules, optimize processes and control costs. Controlling costs is one of the most challenging tasks, but it’s also the most important. Costs impact your profitability. And if you don’t control them, you risk closing your doors.
This ultimate guide provided you with everything you need to know to better understand and manage restaurant costs. You now understand the five major costs of opening and running a restaurant and know exactly how to calculate three essential costs: Prime, labor and food cost. More importantly, you know what strategies to implement to keep these cost under control so that you remain profitable. And that’s all you really want, right?
Source: Brown, Douglas Robert. The Restaurant Manager’s Handbook: How to Set Up, Operate and Manage a Financially Successful Food Service Operation