Restaurant Accounting: For Profit's Sake - Inventory

Your Beverage Cost

by Ron Gorodesky and Ed McCarron

The food and drink is great, the service fabulous and the
restaurant is busier than ever - but are you wondering why
the bottom-line isn't all it should be?

Alcohol sales (beverage sales) are an easy way to

increase profitability because the costs are lower and the
gross margin is far greater for beverage than for food.
However, beverage costs must be controlled if an
operation is to reach maximum potential of gross profit
from beverage sales. Every reduction in beverage cost percentage renders a higher
gross profit. Beverage costs that are above industry averages can negatively impact
your profitability. A profitable restaurant typically generates a 22% to 28% beverage
cost. Because of the impact beverage costs can make on an operation, it is important to
know where beverage cost falls in relation to total sales on a daily or weekly basis.
Beyond the bottom line, beverage costs also reflect an operation's control systems,
management skill level, and value provided to the customers.

Despite its importance, we find many restaurant managers do not calculate beverage
cost correctly, or if they do, they do not fully understand the process. If calculated
correctly, the ratio can be compared to industry averages and previous performance.
Alcoholic beverages are included in beverage cost calculations. Soft drinks, juices,
coffees, and other non-alcoholic beverage sales are included in food cost calculations.
With an accurate beverage cost, steps can be taken to improve the operation and
ultimately improve the bottom line. The following is a step-by-step method for
calculating beverage cost including an example and a worksheet to calculate your own
beverage cost.

CALCULATING BEVERAGE COST

Keeping in mind that eventually you want to compare your beverage cost with industry
averages, how you determine the numbers must be consistent with industry practices.
The industry standard is based on the Uniform System of Accounts for Restaurants (a
handbook available from the National Restaurant Association). This system clearly
identifies what items are included in each part of the beverage cost formula and is
briefly outlined below.
Beverage Cost = Cost of Beverage Sales / Total Beverage Sales

GENERAL GUIDELINES

Establish a specific time period for analysis.

The beverage sales and costs should be generated during a set accounting time period
of at least two weeks or more typically, every 28 days, or monthly. Soft drinks, juices,
coffee, and other non-alcoholic beverage sales are included in food cost calculations,
not beverage cost calculations.

STEP BY STEP - CALCULATING BEVERAGE COST

1. TIME FRAME

Working with your accountant and managers, set up a regular time frame to analyze
beverage cost. It is critical that the elements of the beverage cost calculation (sales,
inventories and purchases) are representative of this time period.

2. BEVERAGE SALES

This is the relatively easy part - total the customer checks or reports from point-of-sale
registers - making sure to only include sales generated from beverage sources (sources
other than beverage should be allocated to a "food" or "other income" account).
Remember to use sales generated only within the allotted time frame.

Example: Beverage Sales (Liquor, Beer, Wine) $1,850

3. COST OF BEVERAGE SALES

The costs associated with beverage sales are comprised of purchases and inventory
level adjustments. In our experience, this part of the calculation is often computed
incorrectly. Determining the amount of purchases for the time period is straightforward:

Total all beverage purchases (include delivery charges)

Example: Beverage Purchases in past 28 days $500

Equally important, and often not included in determining cost of beverage sales, is the
inventory adjustment. Many restaurants consider only purchases in determining
beverage cost. This does not create an accurate beverage cost percentage - depending
on the day purchases are made and what the cut-off date is for including sales in the
beverage cost calculation, your beverage cost could appear higher or lower than it
actually is. Additionally, this discrepancy makes it difficult to compare and track
beverage costs.

For example, suppose you receive (purchase) all your spirits and wine products on
Thursday to prepare for the weekend. The time period for determining beverage cost
ends on Friday (the next day). In calculating your beverage cost, it appears much higher
than last month. While the increase may be due to theft or another operational issue,
most likely it is due to calculating your beverage cost inconsistently and incorrectly.
Your purchases reflect a large Thursday delivery, however, you do not log the sales
from the weekend to offset these purchases, making your beverage cost appear out of
line. Additionally, you have not factored in the inventory adjustment.

Determine Inventory Adjustment

To properly determine beverage cost, a physical inventory of the main bar, service bar
and storeroom areas must be conducted at the end of each period.Once you have your
ending period inventory level, look at the change from your beginning (start of time
period) inventories (bars and storerooms). The key to accurate cost determination is
understanding the role inventory levels play. For example, if the beginning inventory
level is valued at $100 and four weeks later the ending inventory for the period is valued
at $75, the inventory adjustment is the $25 difference - an increase in cost of beverage
sales because you used $25 worth of inventory and did not replace it with new
purchases.

Considering this change and its effect on cost of beverage sales, apply the difference to
the total purchases for the time period, giving you the total cost of beverage sales.

Cost of Beverage Sales =Purchases+/- Inventory Adjustment

(ADD if Beginning Inventory > Ending Inventory, SUBTRACT if Beginning Inventory <
Ending Inventory)

Example: Purchases $500 Beginning Inventory $750

Ending Inventory $625
Total = $125

Cost of Beverage Sales =$500+$125

Cost of Beverage Sales =$625
4. BEVERAGE COST PERCENTAGE

The final step - putting the numbers together!

Beverage Cost = Cost of Beverage Sales / Beverage Sales

Example Beverage Cost = $625 / $1,850 = 33.8%

ANALYZING YOUR BEVERAGE COST

What should your beverage cost percentage be? Successful restaurants generate
beverage costs in the mid 20% range. However, different types of operations typically
run higher or lower percentages - fine dining may run up to 35% (sales of bottles of wine
are usually less profitable other alcoholic beverages) whereas brewpub restaurants may
run about 15%. Comparing your cost percentage to restaurants with similar menus and
service levels provides a more accurate perspective.

For example, the average beverage cost is 32.1% for American/Regional menu themed
restaurants and 30.8% for a restaurant in a multi-unit organization.

How can you use your beverage cost percentage? The next step requires compiling the
sales and costs consistently and regularly, as comparisons to previous performance can
prove very helpful, identifying problems and trends - remembering that a decrease in
beverage cost is as important to investigate as an increase. From here, your operation
is positioned to tighten its beverage cost by looking closely at various methods used to
control beverage cost - with the ultimate goal of positively impacting your bottom line.

CONTROLLING YOUR BEVERAGE COST

There are many methods used to control liquor costs and every operator needs to
determine which methods should be implemented. The following are some basic
methods that could be applied. A combination of several different controls is the best
way to ensure tight control and therefore see the maximum potential liquor sales offer.

1. Par stocked bar

o The bar should be stocked based on a number of bottles of each brand

sold on the busiest day plus a margin for safety.
o Bottles should only be restocked by managers and only on a bottle for
bottle basis.
2. Receiving and storing

o Purchasing and receiving functions should be undertaken by separate

individuals. The beverage buyer should not be the same person receiving
the merchandise. A receiving report is generated by the purchasing
manager stating the quantities, sizes, and agreed upon prices for the
order. The receiver is responsible for inspecting the order when it comes
in and making sure it matches the report.
o All bottles received should be marked in a way that makes the bottle
identifiable as a house bottle (to prevent bartenders from bringing in their
own bottles and keeping the profits)
o All received merchandise should then be stored in a locked area where
access is limited to as few people as possible (ideally just one), as this
allows shortages to be traced.

3. Maintenance

o A perpetual inventory should be maintained for each time period with

adjustments for purchases and requisitions. This perpetual inventory
should be compared against a physical inventory at the close of every
period and variances should be noted and investigated.

4. Bartending standards

o All bartenders should be required to complete all transactions for sales

immediately, either by opening a tab or accepting payment. Any delay in
this makes it easier to "forget" to ring in a sale.
o Some method of recording sales should be employed in a consistent way.
Either red lining a dupe once payment is made or filing copied dupes for
each shift.
o An accurate pouring method should be utilized.
o Drink recipes should be consistent and readily available.

These methods of control and properly calculating your beverage cost will go a long
way in assisting you, the restaurateur, to manage beverage costs and increase
profitability.
Restaurant Accounting: For Profit's Sake,
Inventory Your Food Cost!
by Ron Gorodesky and Kate Lange

The food is great, the service fabulous and the restaurant is busier than ever - but are
you wondering why the bottom line isn't all it should be?

Check your FOOD COST. A vital ratio - key to the success of any restaurant as it
directly impacts profitability. A profitable restaurant typically generates a 28%-35% food
cost. Coupled with labor costs, these expenses consume 50%-75% of total sales.
Because of the impact food cost makes on an operation, food cost is one of the first
things we examine at a troubled property. Beyond the bottom line, food cost also
reflects an operation's food quality, value provided to the customer, and management
skill level.

Despite its importance, we find many restaurant managers do not calculate food cost
correctly, or if they do, they do not fully understand the process. To be useful, food cost
percentages must be determined accurately. Then the ratio can be compared to
industry averages and previous performance. With an accurate food cost, steps can be
taken to improve the operation and ultimately improve the bottom line. The following is a
step-by-step method for calculating food cost including an example and a worksheet to
figure your own food cost.

CALCULATING FOOD COST

Keeping in mind you want to eventually compare your food cost with industry averages,
how you determine the numbers must be consistent with industry practices. The
industry standard is based on the Uniform System of Accounts for Restaurants (a
handbook available from the National Restaurant Association). This system clearly
identifies what items are included in each part of the food cost formula and IS briefly
outlined below.

Food Cost = Cost of Food Sales / Food Sales

GENERAL GUIDELINES

 Establish a specific time period for analysis. The food sales and costs should be
generated during a set accounting time period of at least two weeks or more
typically, every 28 days.
 Juices, coffee, soda supplies and other non-alcoholic beverage sales are
included in food cost calculations.
STEP BY STEP - CALCULATING FOOD COST

1. TIME FRAME
Working with your accountant and managers, set up a regular time frame to
analyze food cost. It is critical that the elements of the food cost calculation
(sales, inventories and purchases) are representative of this time period.
2. FOOD SALES
This is the relatively easy part - total the customer checks or reports from point-
of-sale registers making sure to only include sales generated from food sources
(sources other than food should be allocated to a "beverage" or "other income"
account). Remember to use sales generated only within the allotted time frame.

Example: Food Sales (+ Juice, Soda, etc.) $1,850

3. COST OF FOOD SALES The costs associated with food sales are comprised of
purchases and inventory level adjustments. In our experience, this part of the
calculation is often computed incorrectly. Determining the amount of purchases
for the time period is straight-forward:

Total all food purchases (include delivery charges and non-alcoholic beverages).
Example: Food Purchases in past 28 days $500

Equally important, and often not included in determining cost of food sales, is the
inventory adjustment. Many restaurants consider only purchases in determining
food cost. This does not create an accurate food cost percentage - depending on
the day purchases are made and what the cut-off date is for including sales in the
food cost calculation, your food cost could appear 5 to 6 points higher or lower
than it is. Additionally, this discrepancy makes it difficult to compare and track
food costs.

For example, suppose you receive (purchase) all your dairy and meat products
on Thursday to prepare for the weekend. The time period for determining food
cost ends on Friday (the next day). In calculating your food cost, it appears much
higher than last month. While the increase may be due to theft or another
operational issue, most likely it is due to calculating your food cost inconsistently
and incorrectly. Your purchases reflect a large Thursday delivery, however, you
do not log the sales from the weekend to offset these purchases, making your
food cost appear out of line. Additionally, you have not factored in the inventory
adjustment.

Determine Inventory Adjustment

Realizing the time and energy that counting inventory on the line (in "production")
is prohibitive to including inventory in food cost calculations, we recommend
estimating a production inventory level. Conduct the inventory of the dining room,
 service and production areas a few times, average the inventory levels and use
that constant figure each time period. Add the estimated figure to the physically
counted storeroom inventories each period for your ending inventory. It is
important to update the production inventory level at least once a year.

Now that you have your ending period inventory level, look at the change from
your beginning (start of time period) inventories (kitchen and storerooms). The
key to accurate cost determination is understanding the role inventory levels
play. For example, if the beginning inventory level is valued at $100 and four
weeks later the ending inventory for the period is valued at $75, the inventory
adjustment is the $25 difference - an increase in cost of food sales because you
used $25 worth of inventory and did not replace it with new purchases.

Considering this change and its effect on cost of food sales, apply the difference
to the total purchases for the time period, giving you the total cost of food sales.

Cost of Food Sales = Purchases +/- Inventory Adjustment

(ADD if Beginning Inventory > Ending Inventory,
SUBTRACT if Beginning Inventory < Ending Inventory)

Example:
Purchases $500
Beginning Inventory $750
Ending Inventory $625
= $500 + $125
= $625 Cost of Food Sales

4. FOOD COST PERCENTAGE The final step - putting the numbers together!

Food Cost = Cost of Food Sales / Food Sales

Example Food Cost = $625 /$1,850 = 33.8%

Now you have the basic steps to complete your own food cost accurately and
consistently with industry practices. Following is a form to assist you in the calculation.
CALCULATING YOUR RESTAURANT'S FOOD COST

TIME FRAME:
Start Date_______End Date_______

FOOD SALES (including coffee, juices and non-alcoholic beverages): A._______

COST OF FOOD SALES:

Food Purchases (including non-alcoholic beverages):_______
Inventory Adjustment:
Beginning Inventory_______
Ending Inventory_______
Difference_______B._______

Food Cost = Cost of Food Sales / Food Sales

FOOD COST =
Line B / Line A =_______=_______%

ANALYZING YOUR FOOD COST

WHAT SHOULD BE YOUR FOOD COST PERCENTAGE? Ron Gorodesky, President
of RAS, maintains that successful restaurants generate food costs in the low to mid
30's. However, different types of restaurants typically run higher or lower percentages -
steak houses may run up to 40% whereas Italian restaurants may run about 28%.
Comparing your cost percentage to restaurants with similar menus and service levels
provides a more accurate perspective.

For example, the average food cost is 35.7% for American/Regional menu themed
restaurants and 32.0% for a restaurant in a multi-unit organization.

HOW CAN YOU USE YOUR FOOD COST PERCENTAGE? The next step requires
compiling the sales and costs consistently and regularly, as comparisons to previous
performance can prove very helpful, identifying problems and trends - remembering that
a decrease in food cost is as important to investigate as an increase. From here, your
operation is positioned to tighten their food costs by standardizing recipes, evaluating
purchasing systems and taking other steps to create a target food cost for your
particular restaurant - with the ultimate goal of positively impacting your bottom line. So,
For Profit's Sake, Inventory Your Food Cost!

Restaurant Accounting: How Four Overlooked

Numbers Cost You Money
By David Scott Peters

As an Assistant Manager of a full-service restaurant and bar, I was taught how to

complete the standard Cost of Goods Sold calculation, the same calculation every new
manager is shown: Beginning inventory plus purchases equals total available. Total
available minus ending inventory equals total product used. Total product used divided
by sales equals Cost of Goods Sold percentage.

That was easy to master, but I had a challenge. As I climbed the ranks of management
into an operations role, my kitchen managers were creating good numbers on paper,
but our bank account did not reflect those positive numbers. And I learned quickly that
profits on paper do not pay the bills; CASH PAYS THE BILLS.

I learned to look deeper into the Cost of Goods Sold calculations to take back control of
the checking account and improve the bottom line.

Looking Deeper

The basic Cost of Goods Sold calculation is where most management stops. I
discovered that there was more analysis to be done when we were rewarding managers
for achieving numbers, yet we didn't necessarily have the dollars in the bank to reward
them with. Let me share with you four additional numbers you must look at that
allow you to drill down deeper into the numbers. They are Average Inventory,
Inventory Turns, Change in Inventory and Budget Variance.

A. Average Inventory. This is the average dollar value in inventory you carry
any day during a given period. This is vital to being able to measure how efficient
your managers are with product and your bank account. Why? I will shed some
light on that next.

B. Inventory Turns. This is how many times the dry storage and walk-in shelves
were stripped clear of product and then re-stocked. In real-world terms, when we
 refer to an inventory turn, we are really referring to the number of times the dollar
value on the shelves turns. The benefit is that this number measures how
efficient a store is with its cash and inventory.

C. Change in Inventory. This is how efficiently your store has been ordering
product. This number is important, just as inventory turns are, because it clearly
represents how much cash you have either freed up or tied up on your shelves.

D. Budget Variance: These numbers show how close your store came to
achieving its goals. Without a target you will be unable to quantify performance.
These numbers will allow you to better interpret how your store performed in a
given period.

In Figure 1, below, I will show you how all of these numbers can come together to give
you a crystal ball to see how you are doing. Then you can eliminate circumstances
where you can be taken advantage of and recognize opportunities to put cash back into
the bank.

Cost of Goods Sold - Food Cost Example

Beginning Inv.  $              3,580.21

Purchases  $            22,522.33
Sub-Total  $            26,102.54
Ending Inv.  $              6,803.01
Used  $            19,299.53
Sales  $            63,045.48
F.C. %                    30.61%
Last F.C %                    29.78%
+/-%                      0.83%

 $      5,191.61  Average Inventory

               3.72  Inventory Turns

 $      3,222.80  Change in Inventory

 $    18,913.64  Budgeted 30.00%

 $    19,299.53  Actual 30.61%
 $       (385.89)  Budget Variance -0.61%
Figure 1

You can see that four additional calculations have been added to bring new facts to
light. These facts will demonstrate how at first glance we might think that the Kitchen
Manager is doing a great job and may be entitled to a bonus, but looking deeper shows
that the KM has made it difficult to make payroll and should not receive that bonus.

We can see from the standard calculation that the KM has come pretty close to hitting
the targeted food cost percentage budgeted for. He has achieved a 30.61% vs. the
budgeted 30%. The KM might even say, "I'm only .61% off budget." And at first you
might say, "You're right, it's not a big deal." But let's look at the numbers deeper.

While the food cost percentage was close to our target and is very close to last month's
food cost percentage, our inventory turns are not hitting the minimum 4 to 6 turns
desired. This means we have too much food on our shelves. Our change in inventory
shows that we added $3,222.80 in product to our shelves. That might mean the
difference in making payroll. Remember, cash pays the bills, profits don't! Then we see
that .61% means that we wasted $385.89 worth of product. So due to poor
management of our restaurant and this controllable expense, we had a negative impact
of $3,608.77 in our bank account. And without looking at the four additional numbers,
we might have rewarded our KM - even though he actually mismanaged our money.

The Facts

You should have learned that the standard Cost of Goods Sold calculation alone, while
important, can get you into trouble with a false sense of well being. A light bulb should
have gone off in your head. You should no longer stop with the standard calculation.
From here on out, you know what to look for and will be able to take steps to not only
make your numbers, but increase your operating efficiency to create a larger bank
account, from which you can pay your bills or maybe even yourself.

Restaurant Operations: Who Can Swim In The Tip

Pool?
By Michael Mitchell

Another limitation is that tipped employees cannot be required to share their tips with
workers who do not customarily and regularly receive tips. The U.S. Wage and Hour
Division has said that wait-staff, bellhops, counter personnel who serve customers, bus
employees, and service bartenders are among the kinds of employees who are
permissible pool participants. But the Division has also taken the position that
dishwashers, cooks, janitors, and laundry-room attendants are not the kinds of
employees who can be permitted to participate in tip-pooling arrangements.
Sometimes tipped employees decide on their own to share their tips with coworkers
who are not tipped employees and who do not participate in a tip pool. Or, tipped
employees might voluntarily decide to share a larger proportion of their tips than their
employer could require them to contribute to a tip pool. If they do this freely, not under
any formal arrangement, and independently of and without any pressure or coercion
from their employer, then this does not invalidate the tip credit or a tip pool. However,
you cannot use any of those pooled tips to cover any tip credit.

Restaurant Operations: Eliminate Poor Receiving

Habits
By Bill Schwartz

Here's a startling discovery. The two worst people to use for receiving goods are the
chef and the manager! Although the chef or manager may be the most knowledgeable
about what was ordered, they are also the two individuals with the least amount of time
to devote to the process. There are far too many interruptions for them to do an
accurate receiving job.

Since the receiving function is largely clerical in nature, it is a misallocation of human

resource to have managers perform clerical functions. Even though a manager can do a
clerk's job, the reverse is usually not true. I strongly advise you to consider another
employee for the receiving job.

In order for this to work, you may need to schedule receiving hours with your purveyors.
And, you will also need to inform the receiving clerk job what was ordered, from whom,
at what price and specification. This can be easily accomplished with purchase orders
and specification training.

The person ordering the goods should be responsible for the completion of the
purchase order. It takes little or no additional time for that person to write down what is
being ordered if this is done while the order is being phoned in to the purveyor.

The fact is that receiving is vitally important and needs as much attention in the food-
service industry and it gets in every other industry. Receiving must be done religiously,
consistently and accurately. The end result will be well worth the effort. It is possible to
absolutely eliminate the possibility of purveyor theft or invoice errors overnight. The
effect of good receiving practices on profitability will be immediately evident.
Restaurant Finance: How Much Is Your Restaurant
Worth?
by Ron Gorodesky and Ed McCarron

How much money is your restaurant worth? Is it what the equipment and furniture
cost? Is it what your sales are - or is it worthless? Restaurant operators need to value
their business for various reasons including negotiating a sale price, for financing
purposes or to assess new worth. This article will explain the way to value your
restaurant business.

The value of a restaurant business is termed Fair Market Value ("FMV"). FMV is the
highest price available where the following objectives are met in an open market:

 A willing buyer and a willing seller;

 Both parties to the transaction acting prudently;
 Both parties are knowledgeable and informed;
 There is no duress; and
 There is a monetary transaction.

A transaction will take place only if it is considered fair by both parties.

We do restaurant business valuations for many reasons. It's important to keep in mind
that the valuation is done to reflect actions of buyers and sellers in the market. The
valuation procedure described here is based on a restaurant's maintainable cash flow
and results of comparable restaurant operations.

After you have restated the financial statements in accordance with USA*, you must
adjust the statements for unusual income or expenses. For example, you must include
any unreported revenues and exclude any unique or individual contracts that provide
revenues. As for expenses, exclude such items as non-performing employees,
excessive compensation, personal expenses and corporate overhead.

For example, a $48,500 maintainable earnings figure will be used in the valuation.
Maintainable earnings is the net income that a restaurant can expect to earn on a
consistent basis before depreciation, income taxes and debt service.

The next thing to do is determine a capitalization rate (or cap rate). The cap rate
converts the maintainable earnings into business value. The cap rate is determined
either by analyzing purchase prices of comparable restaurants including sales prices
and maintainable earnings (not necessarily information that is always available) or by
calculating a weighted average cap rate. Cap rates are determined based on factors
such as financing (debt or equity), lease terms and cost of capital. In general, a lower
cap rate (20 to 30 percent range) effects a higher restaurant value and a higher cap rate
(30 to 50 percent range) effects a lower restaurant value. Also, cap rates are sometimes
expressed as earnings multiples. For example, a 25 percent cap rate would be a 4
times earning multiple and a 33.3 percent cap rate would equate to a 3 times earning
multiple.

Once the maintainable earnings and capitalization rate are established, to calculate the
Fair Market Value simply divide the maintainable earnings by the cap rate or multiply
the maintainable earnings by the earnings multiple.

The valuation for our sample restaurant is $194,000 and calculated as follows. We have
used a 25 cap rate or 4 times earnings multiple:

Maintainable earnings $48,500

Divide by capitalization rate 25%

Restaurant Value $194,000

Using this methodology is the most accurate method of establishing value for your
restaurant. This value is based on earnings of a professionally managed business.
Since items such as furniture, equipment and a liquor license are used to generate
maintainable earnings, they are all part of the business value. Also be aware that if you
own the building in which your restaurant is housed, there is a separate real estate
value for that building, in addition to restaurant business value.