Here is what you need to know to be successful…
Most restaurant owners are not typically a financial expert and that is okay, but at the very least, as a business owner, you have to know your basic numbers so you can better plan, forecast and reduce your chances of failure. Starting a business, let alone starting a restaurant has some risks, but so does waking up and taking a shower, walking out of your front door, you could get hit by a bus, driving and flying has risks, but your goal is to mitigate risk and take calculated risks. After all, if you take no risk, there are no rewards, that is why many people work 8 to 5 because they are afraid of the unknown risk.
In this article, we are going to clearly review how to continuously reduce your chances of going out of business, i.e. reduce risk, which in turn, helps you be profitable and successful. Remember, if you are making money, it doesn’t make you successful. Making money is the byproduct of being successful.
Get a plan together, write down the goals and set a vision
Not planning is planning to fail so first and foremost, figure out what you want to do, how you are going to do it, who do you need to help you get there and write down all the details. By writing things down, it helps you better visualize the entire process which in turn, helps you find any gaps that you could not visualize in your mind. So if it is important, write it down.
Writing down the goals helps everyone be on the same page and ensures the team is aligned on what the end results are in order to be a successful business. You do not want a free for all business, especially a restaurant where the food must be the same quality, portion, look and taste every time. Just like a professional team, everyone should know the end goal.
Next, set the vision – where can this business go? This is where you should dream and dream very big, it is okay if you want to start a single location restaurant and operate it indefinitely, there is nothing wrong with that. Once you’ve set the vision, publicly put the vision out, let the world know, at the very least, all of your employees and stakeholders should clearly know what the vision is. The bigger the vision and goal, the more people think you are crazy, others may think you are the dumbest person, but if you believe the vision, if you have the stamina to keep it going through the ups and downs, if you bring in qualified people who see that vision, it will become a reality regardless of how impossible it may seem. Starting a business is extremely difficult, and that is why there is such a high failure rate. Many are simply unable to cope with the ups and downs and since they do not have a vision, they give up, they quit, they go home.
A very important lesson that you will learn from your vision statement is WHY are you going to put yourself through all the pain and agony. What will you gain at the end? If your cause is to do it as a hobby, then your expectations will be set accordingly compared to running the business to make money or to grow it into a national brand.
The vision will help you clearly understand your end financial goals and you can work backwards to see if the financial gain is worth the journey. Many business owners leave their 8 to 5 job, invest $500,000 to $1,000,000 dollars in a business and end up being “Self Employed.” That is absurd, why would you do that? You just invested $500k in order to make $100k a year! You could have gone out and educated yourself, became great at that same subject and gotten a 8 to 5 job that pays you $100k a year and you would not have had to invest $500k nor do you have to deal with all the ups and downs of being Self Employed. Again, starting a business is taking a risk but you want to ensure it is a calculated risk with the upside to make up for the tough times.
Running a restaurant is running a business. Treat it that way
Just like ANY other business, margins are very thin on the first $500 to 750k a year in revenue. It is simple math and you cannot defy the math, this is the law of the universe so do not fight it. First 750k will pay all of your fixed expenses and operating expenses and what is left is very little to survive. Again, this is why planning in the first step is crucial. You must know your numbers. If you are investing $500,000 in a new restaurant, expecting to generate $750k/year in revenue, you will undoubtedly be part of the group of restaurant owners who are always complaining “restaurants have thin margins.” I am here to tell you restaurants have amazing profit margins.
So let’s drill down on the numbers.
Fixed Expenses and what are they?
Your fixed expenses are things that do not change much from month to month, they are there whether you sell $100 in revenue or sell a million dollars in revenue. A few examples; rent or your loans you took out on the $500k build out. You are obligated to pay these, regardless of your revenue.
Operating Expenses and what are they?
Operating expenses are those variables that change and usually increase the more you sell or the more you use them. In your restaurant, your OpEx items that you know very well are Food Cost and Labor Cost. Food cost increases the more you increase your sales. Food cost generally increases in direct proportion to your sales, so if you sell $100, your food cost is $30 and if you sell $1,000 dollars then your food cost is about $300. So there is a direct linear increase in sales vs food cost.
Labor cost, even though it is an OpEx, is not in a linear proportion to your sales. This is very important because as a restaurant owner, it allows you to know your maximum profit points. For example, If you are selling $1 million in sales, you can increase your sales by $150,000 a year, $412 dollars a day without having to add any additional labor to FOH or BOH, but if you increase your sales by $300,000 a year, or $824 a day, you may need to add an additional server or cook. So there is a non-linear correlation between sales and labor cost. This will play an important role later in this discussion.
Importance of getting to a $1M a year in revenue and why it is imperative to get there as soon as possible
As we discussed, the first 750k in sales and revenue are to pay for your fixed and operating cost. That means you will make nearly no money if your business does only about $750k a year, however, as you start going over $750k to about $1M, this is when you start generating some profits. And when you go over a million dollars, then your profit margins will sky rocket. As an example, a restaurant that does $650,000 a year in sales has a profit margin of just under 8% or roughly $57,000 a year, but a restaurant that does $1 million a year in sales, has a profit margin of almost 20% and generates roughly $200,000 dollars a year in profit. As you can see here, it is extremely important to get to the million dollar a year sales as soon as possible.
Read out blog, Do Restaurants Really Have Thin Margins? To fully dive into this topic, review the numbers and clearly understand the importance of sales.
Understanding the numbers
Understanding your Profit & Loss and your balance sheet is important in order to be proactive in business management. So let’s go through some of the important figures.
Top Line Revenue.
Sales, Revenues, Income, top line – they all mean the same thing. How much did you bring in by selling your product or service? This number is exclusive of your sales tax, alcohol tax, tip paid to employees and your refunds, voids, comps etc. This is by far the most important number because everything else is calculated based on this very important figure.
Your gross profit is the next very important figure, this is going to be your top line revenue minus your cost of goods sold, in your restaurant, that is your food cost. Take your $1 million a year in sales, deduct $300 thousand dollars in food cost and you end up with $700 thousand dollars in Gross Profit.
Now you’ve made $700 thousand dollars but you still have to take out your expenses. You have to pay rent, utilities, subscriptions, employees, repairs, maintenance, advertising and hopefully the list will not grow beyond 50% of your top line revenue or $500 thousand dollars a year. Taking the $700 thousand in gross profit, minus $500 thousand in expenses, you end up with a nice 20% net margin or $200 thousand dollars in net profit.
This is your free cash flow, net profit, net margin, meaning it is your take home money that no one will want a piece of it. So your total revenue minus your food cost minus your expenses will equal to your net profit. Actually you still do have a partner that will want a part of your net margin, no, we didn’t forget Uncle Sam, but you may have. As of 2023, if you are making $200 thousand dollars a year, married filling jointly, your effective tax rate is 17% after basic deductions. So you will technically take home roughly $170 thousand dollars.
As we said at the beginning, it is imperative to know your numbers from start to finish so you can calculate the risk that you are taking.
We hope that you learned something new and have taken a different perspective in starting and running your next restaurant. Please share this with your colleagues and fellow business owners so together, we can be more successful.
Contact us, to learn more about how Milagro can help you reduce risks in your restaurant business.