This is Why Most Coffee Shops Don’t Make Money

Summary

The video explains why many cafes struggle to make money despite selling high-margin products like coffee. The main issue is that cafe owners often don't understand their financials. The video breaks down three key cost areas that can make or break a cafe business: gross profit, labor costs, and rent. It provides tips on calculating profit margins, controlling labor costs through efficient staffing, and managing rent expenses to keep the business profitable. It emphasizes the importance of tracking these costs and adjusting prices and operations to maintain profitability.

Takeaways

• 📈 Many cafes struggle financially despite selling profitable products because owners often lack a deep understanding of their financial numbers.
• 💼 The profit and loss (P&L) statement is crucial for understanding a cafe's financial health, showing profit or loss over a period and dividing into sales, gross profit, and operating expenses.
• 💰 Gross profit, which is the profit made directly from the product itself before other expenses, is a key area to control for a successful cafe business.
• 📊 Labor costs, including wages, salaries, benefits, and taxes, can be a significant expense for cafes, often constituting a high percentage of sales.
• 🏠 Occupancy costs, which include rent and associated outgoings, are typically high for cafes located in prime locations and should be managed carefully.
• 🔍 Controlling gross profit involves understanding the profit on every item sold, which can be time-consuming but is essential for financial success.
• 📊 Benchmarking is important, with average cost of goods (COGS) for coffee shops typically ranging between 35% and 40% of sales.
• 📈 To improve gross profit, cafes can either cut costs by finding cheaper suppliers or increase prices strategically without compromising quality.
• 📋 Labor management is challenging and requires careful rostering to align staff hours with sales to control labor costs effectively.
• 💼 Rent is often a fixed cost, so increasing sales is the primary way to manage high occupancy costs and maintain a healthy business model.

Q & A

Why do many cafes struggle to make money despite selling a profitable product?

Many cafes struggle to make money because the owners often don't understand their financial numbers, which are crucial for managing costs and ensuring profitability.

What is the importance of a Profit and Loss (P&L) statement for a cafe business?

A P&L statement is essential as it shows the profit or loss over a period, divided into sales and gross profit, and then operating profit after deducting other expenses. It helps in understanding the financial health of the business.

What are the three key cost areas that can make or break a cafe business?

The three key cost areas are gross profit, labor, and rent. Controlling these areas is critical for the financial success of a cafe.

How does the cost of goods sold (COGS) affect the gross profit of a cafe?

COGS, which includes the cost of ingredients like coffee, milk, and packaging, directly impacts gross profit. A lower COGS percentage is ideal, aiming for 30-35%, to ensure a healthy gross profit margin.

What is a practical approach to managing gross profit in a cafe?

A practical approach is to calculate the profit on every item sold, especially when adding new products to the menu. This helps in maintaining a healthy gross profit range.

Why is labor cost a significant challenge for cafe owners?

Labor cost is a significant challenge because it can be as high as 40% or more of sales, and it's difficult to manage. Unlike COGS, labor cost does not automatically adjust with sales fluctuations.

How can cafe owners manage labor costs more effectively?

Cafe owners can manage labor costs by writing rosters based on daily budgets and using software or spreadsheets to allocate staff shifts, ensuring labor costs align with sales.

What is occupancy cost in the context of a cafe business?

Occupancy cost refers to rent and associated costs. It's typically a fixed cost and can be high for cafes located in prime locations. Aiming for an occupancy cost of around 10% or less of sales is ideal.

How should cafe owners approach increasing prices to improve profitability?

Cafe owners should consider increasing prices annually to account for inflation and ingredient cost increases. This can be done discreetly without major announcements to maintain customer loyalty.

What is the role of sales in managing occupancy costs for a cafe?

Increasing sales is crucial for managing occupancy costs, especially when rent is high. A higher sales volume can offset the fixed cost of rent, improving the overall profitability of the cafe.

Outlines

00:00

☕ Why Many Cafes Struggle to Make Money

Despite selling coffee for $5, which only costs around $1.20 in ingredients, many cafes struggle to make money. The problem often lies in not understanding financials, especially the profit and loss (P&L) report. P&L divides into sales and gross profit, minus operating expenses like labor and rent. This leads to the operating profit, crucial for evaluating business health. To make money, cafe owners need to focus on controlling gross profit, labor, and rent, the key costs that determine success.

05:06

📊 Understanding Gross Profit for Cafes

Gross profit is the difference between the selling price and the cost of goods sold (COGS), such as ingredients. For a $5 coffee, after deducting taxes and ingredient costs, a cafe might make a gross profit of $3.31, about 73%. However, overall gross profit fluctuates depending on the products sold. Aiming for a lower COGS percentage (30-35%) can improve profitability. Calculating profit for each menu item is crucial for managing gross profit, though it may involve trade-offs, such as balancing in-house production with pre-made food costs.

💡 Managing Price Increases and Gross Profit

Cafe owners should monitor gross profit and be open to adjusting prices regularly to combat rising ingredient costs. Many owners avoid price hikes, fearing customer loss, but small, periodic increases can help maintain a healthy gross profit. For example, when considering pre-made items like cookies from suppliers, tripling the wholesale price is a rough method to determine profitability. Aiming for over 65% gross profit is a good target to ensure financial sustainability in a cafe business.

👨‍💼 The High Cost of Labor in Cafes

Labor costs, including wages, benefits, and taxes, are often the biggest expenses for cafes, particularly in regions with high minimum wages like Australia. Labor costs can exceed 40% of sales. Unlike COGS, labor costs do not adjust with sales fluctuations, making it challenging to manage. Many cafes stick to a fixed staff roster, leading to inefficiencies on slower days. To control labor costs, owners should write rosters based on projected sales, using software or spreadsheets, and adjust staffing to maintain target labor percentages.

🏢 Occupancy and Rent Management for Cafes

Rent, or occupancy costs, is another major expense for cafes, especially in prime locations like shopping centers. Rent is often a fixed cost, paid regardless of sales. To keep rent manageable, it’s recommended that occupancy costs stay around 10% of sales. This percentage is typically higher for new businesses but should decrease as sales grow. If rent is too high, increasing sales is often the only solution. Finding the right balance between rent and location is essential for long-term success.

Keywords

💡Profit and Loss (P&L)

The Profit and Loss statement, often abbreviated as P&L, is a financial report that summarizes the revenues, costs, and expenses incurred by a business over a specific period. In the context of the video, it is crucial for cafe owners to understand their P&L to identify areas of profitability and potential loss. The script emphasizes the importance of the P&L in determining the operating profit, which is essential for valuing the business when considering a sale.

💡Gross Profit

Gross profit refers to the direct profit a business makes from its core operations, specifically from the sale of products or services, before accounting for other expenses. In the video, the speaker explains that gross profit is calculated by subtracting the cost of goods sold (COGS) from the total sales revenue. For a cafe, controlling the gross profit is critical, as it directly impacts the overall financial health of the business. The video suggests aiming for a lower COGS percentage to increase gross profit margins.

💡Cost of Goods Sold (COGS)

Cost of Goods Sold (COGS) represents the direct costs attributable to the production of the goods sold by a company. This typically includes the cost of raw materials, direct labor, and any other directly attributable expenses. In the video, COGS for a cafe includes the cost of coffee, milk, paper cups, and lids. The script uses the example of a $5 coffee, where COGS might be around $1.20, leaving a significant gross profit margin.

💡Labor Cost

Labor cost in the context of the video refers to the expenses associated with paying employees, including wages, salaries, benefits, and taxes. The video highlights labor cost as a significant and often problematic expense for cafes, as it can be high and difficult to manage effectively. The speaker suggests that cafes should aim to control labor costs by aligning staff scheduling with projected sales to avoid overstaffing and excessive labor expenses.

💡Rent or Occupancy Costs

Occupancy costs, as mentioned in the video, encompass the expenses related to renting a physical space for business operations, which typically includes rent and other associated costs such as property taxes and maintenance. The video emphasizes the importance of keeping occupancy costs low, ideally below 10% of sales, to ensure profitability. High rent in prime locations can be justified if it drives customer traffic, but it's crucial to manage these costs carefully.

💡Operating Profit

Operating profit, also known as EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization), is a measure of a company's profitability that excludes non-operating expenses and non-cash charges. In the video, the speaker explains that operating profit is derived from the P&L after all operational costs, including labor and occupancy, have been deducted. It is a key indicator of a business's financial performance and is used to evaluate the business's value.

💡Inflation

Inflation is the rate at which the general level of prices for goods and services is rising, and subsequently, purchasing power is falling. In the video, the speaker mentions adjusting prices annually to account for inflation, which is a strategic move to maintain gross profit margins despite rising ingredient costs. This practice ensures that the cafe can continue to operate profitably despite market-wide price increases.

💡Gross Profit Margin

Gross profit margin is the percentage of total sales revenue that is retained as gross profit. It is calculated by dividing the gross profit by total sales. The video script suggests that cafes should aim for a healthy gross profit margin, ideally above 65%, to ensure financial viability. This margin is crucial for cafes as it indicates how efficiently they are converting sales into profit after accounting for the cost of goods sold.

💡Menu Engineering

Menu engineering, while not explicitly mentioned in the video, is an implied concept in the discussion of controlling gross profit. It involves strategically structuring a menu to optimize profitability by promoting high-margin items and de-emphasizing low-margin items. The video's advice to analyze the profit on every single item sold aligns with menu engineering principles, aiming to maximize overall profitability.

💡Staff Scheduling

Staff scheduling refers to the process of planning and organizing the work hours of employees to ensure efficient operations. The video highlights the importance of aligning staff schedules with projected sales to control labor costs. Effective staff scheduling can help cafes avoid overstaffing during slow periods and understaffing during peak times, thus optimizing labor expenses and service quality.

Highlights

Many cafes struggle financially due to a lack of understanding of their financial numbers.

Profit and loss (P&L) reports are crucial for understanding a cafe's financial health.

Gross profit is the direct profit made on the product itself, excluding other expenses.

Labor costs, including wages, salaries, benefits, and taxes, can be a significant expense for cafes.

Rent and occupancy costs are often high for cafes located in prime locations.

Controlling gross profit, labor, and rent are key to a cafe's financial success.

Gross profit can be influenced by the sales mix of various products.

Tax considerations, such as GST in Australia, affect the real price of products.

Cost of goods sold (COGS) includes ingredients and materials used in products.

Benchmarking against industry averages can help set targets for COGS.

Adjusting prices annually can help maintain gross profit margins.

Labor costs can be managed by aligning staff rosters with projected daily sales.

Using software or spreadsheets can help manage labor costs effectively.

Occupancy costs should ideally be around 10% or less of sales for a new business.

Increasing sales can be a strategy to offset high occupancy costs.

Cafe owners should regularly review and adjust their pricing strategy to account for cost increases.

The video offers 10 cafe marketing ideas to help increase sales.

Transcripts

why do so many cafes struggle to make money  when you see a busy coffee shop with a lineup of  

people paying $5 for a coffee that costs around a  $1.20 in ingredients it seems like a money-making  

machine so what is the problem why do so many  cafes fail when they're selling a profitable  

product that people are literally addicted to well  in my experience for a lot of Cafe owners it comes  

down to one thing they don't know their numbers  yes I'm talking about financials those annoying  

details that can bring down even the busiest Cafe  business so today I'm going to give you a crash  

course in how these numbers work and show you  the three key costs that can make or break every  

Cafe business now buried away in your accounting  software or in the paperwork that your accountant  

sent you that you pretended to understand is a  report that is really really important to get  

familiar with if you actually want to make money  it's called a profit and loss or p&l for the cool  

kids now the p&l shows how much profit or loss  you've made over a period of time like a month or  

a year and it's divided into two sections the  top section shows sales and gross profit now  

gross profit is the profit we make directly on  the product itself now it doesn't factor in other  

expenses like labor rent or the repayments on  the company yacht now those costs are shown in  

the section below the line so once we deduct  these costs we're left with operating profit  

or what is sometimes called EBITDA you know if  you like wearing power suits whatever you call  

it this is an important number because part  from making money this is the number used to  

calculate the value of the business when you want  to sell it okay so that's a lot of jargon what do  

we actually do with this information how do we  use this to make money and for a coffee shop  

profit almost always comes down to controlling  three key areas gross profit labor and rent if  

you can't get these three areas under control  then all the other details usually aren't going  

to make much difference so let's get a closer  look at these three starting with gross profit  

consider the average cost for a cup of coffee  that a coffee shop might sell for $5 for example  

a takeaway flat white in a 12 oz cup now to start  with we need to deduct tax in Australia GST is 10%  

so we divide by 11 to take that right off the top  and we're left with $4.55 which is the real price  

that we'll need to work with to calculate profit  now ingredient costs include coffee milk paper  

cup and the lid these are called cost of goods  or cogs if you want to sound like a business pro  

in this example based on typical ingredient costs  these add up to $1.24 which leaves us with $3.31  

in what's known as gross profit that's 73% of the  price so the theory is good so far but the reality  

is that on the monthly profit and loss you're  not looking at one product you're looking at a  

combination of all the products you sell not only  that but there's always some products that sell  

really well and a whole lot of others that sell a  lot less so this pushes the overall gross profit  

up or down depending on the profit of each item  so if we take a look at the benchmarks from the  

tax office overall cogs for coffee shops average  between 35 and 40% now it's not always helpful to  

work in averages cuz every business model and  region is different but ideally I think best  

practice is to aim for a lower range closer to 30  to 35% so step one to control and gross profit is  

to work out the profit on every single item that  you sell yes this can be timec consuming if if  

you've got a big menu so my tip is to do this when  you add a new product to the menu grab a set of  

scales measure each ingredient enter this into a  spreadsheet and then compare margins across your  

menu now there's always a bit of a trade-off here  for example if you're buying food items pre-made  

from A supplier then they'll cost more than if  you make them in house but you'll end up spending  

Less on labor cost the same is true with retail  products like bags of coffee or bottle drinks the  

percentage gross profit will be lower but they're  usually simple add- on sales that don't add to  

labor cost there's no one answer I can give you  on the right gross profit but here's a quick hack  

I used when considering ready to serve food items  like cookies or croissants from A supplier I would  

start with the wholesale price and triple it if I  thought I could sell it at that price then I knew  

I was in a workable range it's a rough hack so use  with caution now the goal of all of this is to get  

your overall gross profit into a healthy range  it varies by country and by business model but  

my goal is to get it above 65% if it drops below  60% and it's going to be hard to hit a decent net  

profit for most coffee shop businesses now at this  point a lot of people will go straight to cutting  

costs finding cheaper suppliers and ingredients  and that's one way to approach it but there's  

another quick and relatively easy way to fix the  problem one that doesn't compromise quality you  

can increase prices now I've met a lot of Cafe  owners who rarely increase prices because they're  

scared of losing customers ingredient costs creep  up every year eating away at their gross profit  

but they keep holding off instead my process was  that I would adjust prices every year so I would  

check competitors and I would already be keeping  an iron gross profit and then would simply make  

the change no big announcement no Manifesto on how  heartbroken I was just inflation it's a fact of  

life now I know it's not always easy there's only  so much you can increase prices but holding off  

making the change is usually not the solution  no that's not a typo we really do spell labor  

with a you where I'm from whatever the spelling  what I'm talking about here is the cost of paying  

staff this includes wages and salaries as well  as benefits and taxes if I had to pick one cost  

that's the killer for most coffee shop businesses  I've seen this is it first of all it's a big cost  

here in Australia it's common to see labor cost  as high as 40% or more of sales now this will  

vary by country and region due to differences in  the minimum wage but it's typically going to be  

one of if not the biggest cost on your p&l and  the second problem is that it's really hard to  

man manage now unlike cost of goods it doesn't  automatically increase and decrease along with  

sales for example if you have an unusually quiet  Day sales will be lower but you'll also use less  

ingredients so the overall gross profit will stay  roughly the same but if you've rosted the same  

number of Staff as usual you don't pay them less  you pay them the hours they work and so your labor  

percentage will be higher leaving less net profit  at the end of the day this is a problem many cafes  

simply run the same roster every week regardless  of sales which means that they effectively have  

no control over the biggest cost in their business  now the alternative is to write your roster to a  

daily budget there are some great software systems  that can help with this but a basic spreadsheet  

can do the job if you've got a small team and you  don't mind a DIY approach so you start by entering  

projected daily sales and then start allocating  staff to shifts as you complete each day you can  

see the expected labor percentage and tweak things  until you hit your target okay so I know all that  

sounds simple on paper and sometimes there's  no way to hit the number unless you cut staff  

to zero but at least you know where the problem  is and you can start addressing the root causes  

like maybe you need to find ways to increase  sales on these days or adjust the service model  

or your menu so you can operate more efficiently  with less staff occupancy is just a fancy way of  

saying rent including the costs that are attached  to it often called outgoings now for a coffee shop  

this can be one of the biggest expenses and that's  because they're often set up in Prime locations  

like street corners and shopping centers which  have really high rents now paying more rent is  

not a problem on its own if that location helps  deliver lots of customers what really matters  

is the percentage of sales so a good Target to  aim for an occupancy cost of around 10% or less  

of sales for a new business that percentage  will usually start out a lot higher and come  

down as sales grow but it's really important  to know what you're aiming for to have that  

in mind when you're considering whether the lease  is worth it in the first place now unlike labor  

cost rent is usually a fixed cost that is  you pay a certain amount every month whether  

sales are high or low now some locations pay a  percentage of sales or a combination but a fixed  

rent is typical that means if your occupancy  cost is too high then the only way to fix it  

is to increase sales and speaking of increasing  sales it just so happens that I've got 10 Cafe  

marketing ideas waiting for you you in this video  right here it's okay you can click it now I'm done

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