What Are Operating Expenses and Its Calculation

If you are planning to start a restaurant business, one of the important things that you need to prepare is the initial cost and a suitable accounting system. To run a restaurant that is successful and sustainable, one must pay attention to the restaurant operating expenses. With proper calculation and understanding of the operating expenses, one can maintain the restaurant’s financial health.

Restaurant operating costs fall into three broad categories – fixed, variable and semi-variable cost.

1) Fixed Costs 

This includes insurance, loan repayment, space rent (if applicable) and certain annual license fees. These expenses can be included easily into the budget as they are fixed prices that do not tend to fluctuate.

2) Variable Costs 

This includes costs that are quite difficult to predict while opening a restaurant as they fluctuate depending on the output. This includes food, hourly wages and utilities. You will get a fair idea of this cost only after several months of running the restaurant.

3) Semi-variable Costs 

These costs contain both variable and fixed components. The main component in this category is labor as it tends to vary greatly due to seasonality and demand. You have both salaried employees (fixed cost) and employees who are paid hourly wages (variable cost). The comforting fact is that this cost retains a constant baseline throughout the year, mostly maintaining stability depending on the business type. 

A Closer Look At Restaurant Operating Expenses

Let us now look in detail into each of these different types of restaurant operating expenses and understand the right way of calculating them.

1) Fixed Restaurant Operating Expenses 

The restaurant’s fixed operating costs include the insurance cost, rent and loan payments and license costs.

Insurance

This is a significant, yet underrated investment for a restaurant business. This is a safe investment to stay protected from liabilities. The restaurant environment is covered with several types of risks. The equipment that is used for everyday operations is prone to accidents. Mishaps that involve staff or restaurant guests are likely to take place.

Types of insurance that restaurants should consider getting: 

  1. Business Liability Insurance – This will provide protection against several claims like physical injury and property damage.
  2. Product Liability Insurance – This is to protect against claims related to equipment malfunction
  3. Liquor Liability Insurance – This would help cover claims of property damage or physical injury caused by an inebriated person inside the restaurant premises
  4. Workers’ Compensation Policies – This is to cover claims for the employees if any injury is caused to them.

(I) Expert Advice:

You will be able to find insurance plans with low-cost principles and high deductibles. But if you go in for such plans, make sure that you will be able to afford the cost of your deductibles after a mishap.

  1. Rent And Loan Payment – Variability in rent occurs according to the location of the restaurant and its size. Payment of rent, reimbursing mortgage loans and building fees are permanent or long-term fixed expenses. Even if the space belongs to you, you still must pay the building administration fees. This will be anything between 8% and 12% of the total rent amount. Always take professional guidance from a lawyer or legal expert before signing the lease. Make them read the legal documents and ensure that everything is in place. Seek the services of an accountant to look at the rent costs or loan payments.

(II) Expert Tips To Save Money On Rent

Inflation and rent prices have experienced a parallel hike after the pandemic. So, restaurant owners will face difficulties in cutting costs spent on space rent. But by following these practices, restaurateurs can avoid unnecessary expenses for rent payments. Just remember that if the rent remains stable even during an inflationary period, you are surely saving money.

  1. Foster a cordial relationship with the landlord
  2. Sign a contract that has provisions to safeguard you from unfair rent hikes
  3. Seek the intervention of a third-party consultant if you are facing difficulties with the landlord regarding the terms of contract

License Fees – Most licenses require an upfront payment. But they require renewal which leads to further expenses.

2) Variable Restaurant Operating Expenses

Due to constant fluctuation based on their output, this cost is a little more difficult to project. The three main variable costs for a restaurant are – Cost Of Goods Sold; Repairs maintenance and utilities and payment processing fees.

(I) Cost Of Goods Sold

This is a main metric that must be considered when you look forward to increasing the restaurant’s profitability. COGS is the metric that is used to calculate the restaurant’s gross profit. This metric will largely vary depending on the cuisine that the restaurant serves and the rate at which the cost of goods fluctuates in the market. Irrespective of the main items that you sell, you should always aim to keep the gross profits around 70%.

(II) Repairs, maintenance and utility costs

If you do not keep a constant eye on these expenses and take care to make provisions in the initial budget itself, you might end up in a complete mess. Have an insurance policy that covers unexpected repairs to the restaurant equipment or external damage to the building’s infrastructure. Utilize the services of contractors who can do a quick job at reasonable rates.

Check the contract to see if the landlord will cover your utilities and you must pay them on your own. Depending on the location, restaurant utilities are likely to cost you $3.5 to $4 per square foot.

(III) Restaurant Management Software And POS Systems

With good restaurant management software and a robust POS system, significant savings are possible in the long run. Automation of business processes will also significantly reduce COGS, result in lesser wastage and better insights into the performance of every item on the menu. While conventional restaurant POS systems will cost an exorbitant $2000, clous-based POS systems can be purchased for as low as $24 per month. The latter also does not require much hardware support. A cash register and a printer would get the job done.

3) Mixed Restaurant Operating Expenses

As the name suggests, this type of operating expense has both a fixed and variable component. The most important element coming under mixed expenses is labor. Expenses incurred on marketing activities also come under semi-variable costs.

Labor costs amount to as much as 20% to 30% of a restaurant’s total expenses. Due to the rapid changes in the U.S. labor market, wages are rising while the workforce is shrinking. This is exerting greater pressure on restaurateurs. Therefore, people running restaurants must not only have a solid grasp of the prime costs but also learn to calculate the restaurant labor cost if they intend to increase their profitability. This will also help avoid significant reductions in the net profit during an economic crisis.

(I) Labor Cost Calculation

The first step is to calculate the total amount spent on labor. This is a little complicated as you would have both salaried staff and hourly-wages employees. You must also consider bonuses, overtime, taxes and any other type of employee benefit that is offered, for instance, health care coverage or paid vacation days. Once you know what this amount is, you will be able to calculate the labor cost percentage.

Labor Cost Percentage = Total Labor Cost/Total Sales * 100 

(II) Expert Tips To Reduce Labor Costs

Labor costs can definitely be reduced in the long-term for the wellbeing of the restaurant business. Even a short-term hike in the labor cost is, in reality, a wise investment for long-term sustainability.

  1. Reduce the costs associated with the loss of existing staff. You must invest time and money in finding and training new staff.
  2. Pay attention while hiring employees and rewarding their performance.
  3. Spending on automation is a great investment on a long-term basis. Reduce tasks that lead to wastage of resources. Use an efficient restaurant management system to motivate staff and increase productivity.

Marketing Expenses 

They vary based on whether you have a consistent strategy or not. But you can keep these expenses consistent by developing a comprehensive marketing plan. Expenses might soar during seasonal promotions. It is recommended to allocate 3% to 6% of the budget for marketing expenses by considering the direct and hidden costs of marketing.

Controlling restaurant operating costs can be tricky. But it is an essential part of managing a restaurant. A restaurateur needs to constantly monitor the prime cost, labor cost and food cost to get an idea of where the money is being spent and when things need to be brought under control to avoid great losses.

For further assistance in restaurant digital business management and restaurant website building, get in touch.