Understanding restaurant profit margins and their importance

As a restaurant owner, you want to keep sales high and costs low. Doing so maximizes your “net” profit – or the amount you’re left with after subtracting total expenses from total income.More specifically, net profit is the difference between:

• Utilities, rent, wages, inventory, marketing, and other operating expenses

• Food, beverages, merchandise, licensing, franchising, and other revenue streams

Your restaurant’s profit margin is simply another way of capturing this concept. Instead of using absolute terms, restaurant margins are expressed as a percentage (i.e., total sales minus total expenses – divided by total sales). As long as that percentage remains positive, your business is theoretically sustainable. However, knowing how to improve net profit margin is what helps your business to thrive.

Why do you need to know your average restaurant profit margin?

There are many reasons why you should calculate and track your restaurant’s profit margin, which include:

• It’s important to know this value when conducting feasibility analyses for an upcoming launch or expansion. Calculating potential small business profit margins lets you know whether or not it makes sense to move forward.

• Knowing your profit margin also allows you to create menus, set prices, and design seating arrangements.

• Investors and lenders will want to know your average restaurant profit margin before agreeing to finance your restaurant or help you buy much-needed equipment.

What are typical restaurant margins (on average)?

Restaurant margins vary considerably due to a range of variables. Some of these factors are covered in an earlier post about average revenues – which are based on factors such as pricing, turnover, and location. When discussing profit margin, expenses also come into the picture. These can vary as well. For instance:

• Minimum wage (i.e., labor costs) in one state can often be much higher or lower than in other states.

• Keeping sushi fresh introduces inventory challenges that the average pizza shop doesn’t have to handle on a daily basis.

Because of variables such as these, there is no one-size-fits-all restaurant business profit margin that applies in all situations. However, here are a few benchmarks:

• Quick-service restaurants tend to hover around 10% to 17%¹, due to high turnover, automation, and relatively inexpensive ingredients.

• Full-service restaurants often have more expensive inputs, higher labor costs, and slower turnover – placing their average restaurant profit margins closer to the 3% to 6%² range.

Further complicating matters is the fact that many restaurants eventually close shop because their profit margins go below 0%. These establishments aren’t always reflected in surveys and reports, which makes it even harder to calculate averages for the industry as a whole. The good news is that your success or failure isn’t dependent on the larger industry. What matters is the average profit margin for your restaurant.

How to calculate your restaurant’s profit margin

If you’ve already been in business for a year or more, calculating your average restaurant profit margin is relatively straightforward. Simply add all of your expenses and sales over the past 12 months and plug them into the formula below:

(Total Sales – Total Expenses) / (Total Sales)

Although you can technically run this calculation for the past month, using a year’s worth of data provides a more accurate picture of your restaurant’s financial health. Twelve months is long enough to capture seasonal fluctuations that might arise during the holidays or summer break, for example.

If your business is new or has yet to open, you obviously won’t have any usable data to plug into a restaurant profit margin calculator. Thus, you’ll need to survey equally-sized restaurants in your area that offer similar fare at comparable prices. The more establishments you survey, the more accurate your projected restaurant business profit margin becomes. Fortunately, there are tools that can make this process easier, faster, and even more precise.

Using technology to calculate average restaurant margins

Historically, restaurants have had to track digital and paper receipts across all of the revenue streams they manage. The same is true when keeping tabs on expenses – from utility bills to pay slips to employee training costs.

With the right point of sale (POS) system, it’s now possible to automate this record keeping – regardless of the channels through which money enters or leaves your restaurant.  Your POS system’s dashboard can give you an accurate snapshot of your business’s financial health at a glance. With this information, you can make better-informed decisions about how to boost revenues or cut costs in an effort to improve overall margins.

For example, your average restaurant profit margin might indicate that diversifying your menu doesn’t make sense. If that’s the case, you may be able to increase sales by introducing curbside pickup and delivery – both of which can be managed directly through your POS system.

Ways to help improve restaurant profit margins

As with all businesses, the secret to increased profits involves boosting sales, reducing costs, or a combination of both.

1. How to increase sales volume

Many restaurant owners use some of the strategies below to help grow sales:

• Building a stronger web presence, complete with online ordering capabilities

• Evaluating your menu items and reworking your pitch, pricing, or design

• Using loyalty programs, gift cards, and discounts to help keep customers returning

• Implementing an omnichannel marketing strategy across multiple platforms

• Improving your restaurant’s operational efficiency (e.g., serve food faster)

2. How to decrease costs

Learning how to reduce overhead costs helps you to keep more of every sale. Common strategies to help achieve this goal include:

• Reducing food waste and converting to a paperless business

• Investing in incentives to retain staff and reduce turnover

• Reducing the cost of goods sold (CoGS) by changing suppliers or simplifying the menu

• Using technology and creating systems that foster efficiency

• Offering more self-service options – such as adding online ordering to your site

To learn about other ways in which using the right POS solution can help make your restaurant more efficient, streamlined, and profitable – request a free demo with Clover today.

This information is provided for informational purposes only and should not be construed as legal, financial, or tax advice. Readers should contact their attorneys, financial advisors, or tax professionals to obtain advice with respect to any particular matter.

1 “Restaurant Brands International Profit Margin,” YCharts
2 “What is the Average Profit Margin for a Restaurant,” Restaurant365, 25 February 2020