Much has been written and many of the industry publications have been flooded with stories as to how the COVID 19 pandemic is about to kill restaurants by the hundreds and perhaps thousands.
All businesses face what has been referred to as a pressure test at some time or another, but no one expected this to hit the industry as hard as it appears to be doing so. We just don’t know the timeline for this, but we do know that this will be the ultimate pressure test to the restaurant business.
How did restaurants get to such a fragile point ? Perhaps a little background and history is in order.
Over the last 15 to 20 years, margins in the restaurant industry have diminished substantially. To compare, according to Forbes and Sageworks, margins for accounting firms net 19.6 per cent, dentists 15.4 per cent, car rental 15.8 per cent
professional and legal services come in around 15.4 per cent, various consulting services 15 to 25 per cent. Why are restaurant margins between three and nine per cent?
These slim margins means that restaurants operate with very limited reserve
capacity. So when a crisis hits, such as the one we now find ourselves in, many face an extremely difficult time and will be challenged to stay in business. Some of the smaller and medium size restaurants don’t have enough to cover a full month’s expenses if they have no revenue coming in.
Given this fact, one wonders how the margins and profitability get to the point we many restaurants now finds themselves in. Well, it starts with the fact that the industry in Canada started this when it began competing on pricing. It was not always this way. Net margins used to be double and triple what they are today.
For the last 20 years as the influx of the conglomerate-owned chain restaurants started to pop on the scene and the industry’s rapid expansion responded by deciding to increase gross revenues with price wars. Those multi-unit chains led those price wars and have, as a result, eroded margins, all the while skewing our perception of what food should actually cost.
Restaurants started pricing menus based on market pressures instead of the actual operating cost on the business. The larger problem is that the consumer does not know what they should be paying for their meal if they continue to expect someone to buy the food, prepare the food, cook the food, clean up after them and provide a heated and air conditioned place to eat it in.
That brings me to the public’s lack of understanding or appreciation of what the true cost of running a restaurant is. The consumer just doesn’t know and most of their assumptions are off. The consumer needs to know how restaurant margins work so they can determine the value proposition of the service they are paying for.
Simply put, the net profit margin is what’s left of sales revenue after subtracting all expenses to get the food to your table.
This includes food cost and cost of goods, labour costs and all the overhead needed to provide the service. It seems pretty straightforward at first, but there are a lot of costs that you might not consider when you sit down and have that meal.
Food cost obviously includes all the ingredients but it also includes food waste, meals sent back, packaging for leftovers etc. Overhead costs can be defined by fixed or variable costs like rent, utilities, insurance, Internet, maintenance, credit card services, etc., but there are also many things that wouldn’t initially come to mind.
Here is a sample income statement with actual numbers that cover what costs are incurred based on a $100 sample sales.
Combined, food and beverage costs and incidental expenses including linen and uniforms, cleaning supplies, paper supplies, smallwares, menus, and Point of Sale system fees, account for 36.9 per cent of the $100 or $36.90.
Next are your payroll expenses that include wages and salaries; source deductions including EI, CPP, WSIB, EHT and employee espenses. This totals 40.8 per cent of the $100 or $40.80.
General and Administrative expenses include Rent ($8.00); Hydro and Gas ($2.35); Credit Card fees ($2.18); Repair & Maintenance ($1.64); Insurance ($0.84); Accounting & Legal fees ($0.82); Advertising & Promotions ($0.64); Professional and Consulting fees ($0.50); Telephone bill ($0.46); Interest & Bank Charges ($0.36); Office Supplies ($0.23); Business Fees & Licenses ($0.10); Web and Internet ($0.04); Licenses & Permits ($0.04); Postage ($0.03); Travel ($0.02). The total accounts for 18.25 per cent of the $100, or $18.25.
When added together, the expenses make up $95.95 of the initial $100. That leaves a net profit of $4.05 or just over four per cent.
Included is all kinds of things that most would not even consider; like who washes the windows ($50 a month), who cleans the aprons and towels ($147 a month), the dishwasher supply and service contract ($150 a month), calling in the grease trap pumper ($175 every two months), kitchenhood duct cleaning service and fire suppression system maintenance ($75 a month), the alarm system ($50 a month) etc. All these things have to happen and be paid for in order for you to come into the restaurant and sit down to enjoy a meal.
The normal restaurant operator really does do their due diligence and try to lower operating costs during all their waking hours, but let’s assume that that option is tapped out. We can’t lower the quality of food we buy, we can’t eliminate repairs and maintenance, we can’t cancel our insurance.
With recent the recent minimum wage increases in Ontario, the entire pay scale went up proportionately to the minimum wage increase resulting in about a 15 per cent increase in labour costs for the business.
Because of competition, menu pricing did not change to cover this major increase in costs to the industry. Many owners deal with the excess labour costs by working much longer hours so they don’t have to pay staff. That can only last so long before burn out takes place and they start having health issues.
The solution to the success of the restaurant’s future is going to have to be the consumer paying for what they want.
To compare, if that same sale was $108 for the same product, the net profit would be closer to 15 per cent of sales and allow the business some form of reserve capacity to wait out a crisis like the one we’re having now. We may even have to make it greater as this crisis is identifying the real value of these hard working people in the restaurant industry. We should be following the European business model and not the American business model which endorses a low minimum wage as the restaurant’s foundation cost.
What does that mean to the consumer? That pint of draft beer would cost $8.50 instead of $7.50; that pizza would be $19 instead of $17. I think you get the picture.
It’s not a huge price to pay for the sustainability of a business sector that appears to be your favourite pastime and service.
The future of the restaurant business in Orléans is critical because eating is literally one of our favourite things, but are we willing to pay for it? It seems that if there’s one industry that should be profitable, it’s restaurants. It is now a big part of our social fabric. What would you pay to save it?
Hopefully we will learn something beneficial as we come out of the Covid-19 pandemic. Hopefully we will learn the value of the things we eat, the value of the things we do and the value of our friends and business neighbours.
(Doug Feltmate is a board member of the Heart of Orléans BIA, a board member of the Capital 2020 Task Force, a restaurant owner in the BIA (St. Martha’s Brasserie) and has been a food service and hospitality consultant for over 40 years, leading projects in 35 countries. He has been a resident of Orléans for over 25 years and currently lives in Fallingbrook with his wife Lisa and two daughters, who are both St. Pete’s students.)