As in nearly any business, managing revenue and expenses is a constant balancing act. And for restaurant owners that balance can be fraught with uncertainty as costs of goods fluctuate. A key metric for restaurants to monitor is “Prime Cost.” Prime Cost represents the two biggest expenses you have – cost of goods sold (COGS) and labor cost – calculated as a percentage of your total sales. Managing these two categories of expenses is one of the most important tasks you, as a manager or owner, will undertake.
Today’s point of sale systems, complemented by additional available software, can provide you with the data you need to monitor these two expenses. But simply having the data available is not enough. You should be actively managing these expenses and acting upon that data. Simply collecting data without acting upon it will not improve your bottom line, but knowing how to use collected data can help increase profitability.
Prime Costs are not like your fixed costs. While your lease payments may be the same from month-to-month, prime costs move dynamically. Any change in the price of the groceries and/or liquor you buy, your scheduling, your sales volume or your menu mix, etc. all impact your prime costs. Here are a few good examples:
Research indicates that Prime Cost targets range from 58% to 62% of sales dependent upon the type of restaurant you operate – quick service, family, sandwich, subs, casual dining or fine dining. For this article we will use an average of 60% as a target. Prime Cost over 65% makes it extremely difficult to make a profit unless you have high sales volumes, regardless of the type of restaurant you operate.
It is important to remember that in particular circumstances, your COGS may be as high as 40% or more. That is okay IF your labor costs are 20% or less. It is the combination of the two that defines your Prime Cost. Running a 30% labor cost? Then your COGS target needs to be 30% or less. You should use Prime Cost as a percentage of revenue to determine a benchmark for your restaurant that can be compared on a weekly, monthly and annual basis.
Accurately calculating your Prime Cost is a critical part of managing restaurant profitability. Here’s the scoop on how to calculate these costs:
Cost of Goods Sold (COGS) reflects the cost of the raw ingredients that make up your menu items. This number represents the amount of food and beverage ingredients you use to produce the menu items sold during a specific time period.
To calculate COGS, take your beginning food and beverage inventory, add in your purchases in these categories and subtract your ending inventory. This number reflects what your restaurant actually used during the period between inventories. Here’s an example:
So, you have the COGS for the week as 30%. Now it’s time to calculate the labor cost for the week:
Calculate your payroll for the week. It is best to do this by separating the front of house and back of house. It would be even better if you are able to do this by individual job categories – for instance servers, host/hostesses, bussers, etc. in the front and line cooks, prep cooks, dishwasher/utilities, etc. for the back. Multiply the hours worked by the rate of pay. This gives you your unburdened labor cost, meaning the costs before payroll taxes, workers compensation insurance, employee health insurance and any other employee benefits you offer. If you have the option through your Point of Sale (POS) system, choose “fully burdened labor” for a more accurate labor cost number.
You will also need to factor in salaried employees. The easiest way to do this is to take the total monthly salaries and calculate your daily salaried employee cost by dividing the total by the number of days in the month. Multiply the daily total by seven to get your weekly salaried labor cost.
Our Prime Cost for the week is the COGS of 30% added to our labor cost of 35% giving us a total Prime Cost of 65%. This is 5% over our target of 60%, so you have some work to do to reach your 60% target.
To help control prime costs, you may consider doing some of these things:
Prime Costs can be quite volatile. They will often creep up before an operator notices, especially if you are not looking at them on a daily or weekly basis. Data is important, but acting upon that data is the key to controlling your prime costs. And while it is important to control your prime costs, do not sacrifice your food quality or guest service in doing so. Use today’s technology to assist you in the management of your restaurant business. There are excellent cloud-based all-in-one restaurant software systems in the marketplace that can integrate to your POS system, your payroll service, food and beverage suppliers and even your banks. The easier you can make it to convert the information you have into action steps, the more effective you will be in hitting your prime cost targets.
For more information on this topic, or to learn how Baker Tilly specialists can help, contact our team.
David Foster is the Principal of Foster and Associates, a restaurant, bar and hospitality consulting firm. He may be reached at dfoster@fosterandassociates.net.
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