Running a restaurant is as much a science as it is an art. Maximizing profits, while producing high-quality menu items that’ll keep your customers coming back for more, is a job that requires a mix of intuition and cold hard facts. Nearly 17 percent of restaurants fail in their first year, and a large contributor to that is being unable to earn more than they spend per meal.
Conducting a break-even analysis is an excellent way to get a handle on your inventory (and your menu), to make sure you’re spending on the right things, and not wasting money on the wrong ones.
What’s a break-even analysis?
To understand what a break-even analysis is, you first need to know what a break-even point is.
Essentially, it’s the amount of money you need to make in sales to offset the money you spend on production.
In simpler terms, how much do I have to sell to make money? A break-even analysis is conducted to find this point, by measuring your restaurant’s costs and expenses against its income.
As you probably know, running a restaurant is capital E expensive. From rent and employee wages to inventory maintenance and decorations, there’s a lot of variable and fixed costs filtering through your books. A well-done break-even analysis takes into account all of these costs and can give you stronger insights into setting your menu prices and ordering your inventory.
How to calculate break-even analysis
To calculate a break-even analysis, you first need to have a handle on your fixed costs and variable costs. That means you’ll have to dig for data in your books before you can calculate your break-even point.
Fixed costs are recurring, constant costs that are incurred regardless of sales. That includes rent, salaries, licensing fees, insurance premiums, and the like. Anything that provides you a constant monthly bill is a fixed cost. Fixed costs are different than one time expenditures, like buying a new stand mixer or a point of sale device.
Variable costs are recurring, and as the name suggests, variable costs that change from period to period. This includes costs like food and ingredients, hourly wages, and utilities. If you think about it, you’ll rarely buy the same exact amount of the same ingredient each month, much in the same way you’ll never pay the same exact amount for electricity each month.
When you have your fixed and variable costs per month, you can start breaking down the components even further. Let’s dive into the other data you’ll need to calculate your break-even analysis.
Total Fixed Costs (TFC): the total $ amount of fixed costs for your business
Total Variable Costs (TVC): the total $ amount of variable costs for your business
Total revenue: total $ amount of income generated
Average Revenue Per Guest (ARG): Total $ revenue ÷ # of guests
Variable Cost Per Guest (VCG): TVC ÷ # of guests
Total Sales: Total $ amount of revenue generated through sales
You can get this data through an inventory management system, or with some elbow grease and some good ol’ fashioned bookkeeping. No matter what method you choose, when you have all the data you need, it’s time to crunch some numbers.
The break-even analysis formula
There are several ways to calculate your break-even point. Two of the most common ways to do it are by cost and by sales.
Here’s how to calculate your break-even point by revenue:
Break Even = TFC/ (ARG – VCG)
Essentially, you divide your total fixed costs by the difference between your average revenue per guest and the variable cost per guest.
You have to calculate your variable cost per guest, which is a fancy way of saying how much money do you spend per meal on average. That doesn’t include the bread and water you might serve them for free. This number likely won’t reflect the cost of any single item on your menu, since it’s an average between high and low unit costs.
Consider the contribution margin
The contribution margin is a fancy accounting term for how much of a product’s price actually nets a profit. If your ham sandwich is sold for $10, and costs $5 to produce (including labor, ingredients, and time), your ham sandwich contributes $5 to your profits.
It’s not as simple as it looks, though, since you have to identify every associated cost with your ham sandwich for that to be an accurate number. For example, if you like to cut the crust off your ham sammies, you need to include that time and labor in the variable cost.
The contribution margin, and it’s gruffer, bearded cousin the contribution margin ratio, can also be used to calculate your break-even point. First, here’s the formula for the contribution margin ratio:
Contribution margin ratio: ((TS – TVC)/TS)
To calculate your break-even point, simply divide your total fixed costs by your contribution margin.
Break Even = TFC/((TS – TVC)/TS)
Calculating your break-even point using the contribution margin formula lets you avoid having to calculate the variable costs per guests. It’s a bit more rudimentary but still lends you the same insights.
Buying time to focus on the important things
If you read through this article, wiped the sweat from your brow and thought, “I need to hire an accountant,” you’re not alone. After all, restaurant owners commonly encounter difficulties with accounting.
Suffice to say, most people open restaurants with a love of food, not a love of math. Investing in things like bookkeeping software, an inventory management system like MarketMan, or even hiring someone to look over the books can go a long way in keeping your business healthy.
It’s important to note that, despite the complexity, the numbers can’t tell you all the answers either. Your break-even point provides valuable insight into how much money you need to make to clear your costs, as well as places you might be able to trim some fat.
However, restaurants still need a human touch. The food needs to be good, the menu needs to be streamlined and enticing, and perhaps most importantly, the customer has to feel welcomed, appreciated, and respected in your establishment.
Calculating your break-even point can help you focus more time and effort on the more challenging parts of owning a restaurant, by helping you set the right goals with the right figures in mind.