Restaurant Labor Costs: How to Calculate and Optimize Your Staffing Expense

Anyone who has worked in the restaurant business knows the difficulty of finding a job in an industry where profits are generally capped by only around 6 percent. In an economy where profit margins are very low, controlling costs should always be done carefully.

Keeping the labor cost under control is one of the biggest challenges restaurant owners face in today’s difficult restaurant market because many restaurant owners are struggling in spending too much on labor. But, when they get ahead of the curve and take a proactive approach to the labor cost, restaurants can stay profitable and competitive.

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What is Restaurant Labor Cost

Labor costs are a significant part of a restaurant's operating budget and can impact its profitability. Restaurant labor costs refer to the expenses associated with employing staff to operate a restaurant. These costs include salaries, hourly wages, benefits like paid sick and vacation days, payroll taxes, bonuses, health insurance, and any other expenses related to hiring, training, and retaining employees. These are all important metrics that should be monitored and tracked regularly to ensure your restaurant stays healthy.

Types of labor cost

In general, restaurant labor costs include front of house and back of house staff:

1. ‍Front-of-house staff: Front-of-house includes employees who interact with customers, such as servers, bartenders, hosts, and bussers. Their primary responsibility is to provide excellent service to guests and ensure a pleasant dining experience.‍
2. Back-of-house staff: Back-of-house includes employees who work behind the scenes, such as chefs, line cooks, prep cooks, dishwashers, and other kitchen staff and managers. They are responsible for preparing food, maintaining cleanliness, and ensuring smooth kitchen operations.

Managing labor costs effectively is crucial for the success of a restaurant. Owners and managers can use various strategies to control these expenses, such as optimizing staff schedules, cross-training employees, investing in technology to improve efficiency, and offering competitive wages and benefits to attract and retain quality staff.

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Why Restaurant Labor Cost Important

It is important for several reasons, as it directly impacts the overall profitability, efficiency, and success of a business. Higher labor costs of goods sold cogs will directly decrease the total profit of a restaurant. Here are some of the key reasons why labor cost is crucial:

1. Financial Stability

‍Labor costs typically account for a significant portion of a restaurant's total expenses. Managing labor costs efficiently is essential for maintaining financial stability and ensuring the restaurant remains profitable.

2. Pricing Strategy

‍The cost of labor plays a role in determining menu prices. If labor costs are too high, menu prices may need to be increased, potentially affecting customer satisfaction and demand.

3. Employee Satisfaction

‍Fair compensation and proper scheduling are crucial to maintaining employee satisfaction, which leads to higher productivity, better customer service, and reduced turnover.

4. Staffing Efficiency

‍Labor costs can help evaluate staffing efficiency, ensuring that the right number of employees are scheduled at the right times to meet customer demand without overstaffing or understaffing, which can impact both the customer experience and overall profitability.

5. Profit Margins

‍Managing labor costs effectively can help to improve profit margins, allowing for reinvestment in the business, expansion, or increased profits for the owner.

6. Competitiveness

‍By managing labor costs, a restaurant can maintain competitive prices and offer value to customers, helping to attract and retain clientele.

7. Compliance

‍Adhering to labor laws and regulations is essential to avoid legal issues and financial penalties. Properly managing labor costs can help ensure compliance with minimum wage requirements, overtime pay, and other regulations.

8. Budgeting and Forecasting

‍Understanding labor costs is crucial for accurate budgeting and forecasting, helping restaurant owners and managers make informed decisions about growth, investment, and other business strategies.

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Factors Affecting Labor Cost

There are several factors that can affect managing restaurant labor expense. Some of the key factors include:

1. Wages

‍The hourly or salary pay rates for various positions, such as cooks, servers, dishwashers, and managers, can significantly impact labor costs. Minimum wage laws, regional differences in the cost of living, and competition for skilled workers can influence wage rates.

2. Overtime and Benefits

‍Overtime pay, paid time off, healthcare, and other benefits can also contribute to labor costs. Regulations and company policies can dictate how these benefits are provided and at what cost.

3. Employee Turnover

‍High employee turnover can lead to increased labor costs due to recruitment, hiring, and training expenses. It may also result in temporary inefficiencies as new employees learn the ropes, which can impact productivity.

4. Labor Efficiency

‍The skill, productivity, and effectiveness of the workforce can greatly influence labor costs. Well-trained and efficient staff can help reduce labor costs by minimizing waste, avoiding mistakes, and providing excellent customer service.

5. Staffing Levels

‍The number of employees scheduled during different shifts or periods can impact labor costs. Balancing the need for adequate staffing with cost control is essential for maintaining profitability.

6. Seasonality and Fluctuations in Business

‍Restaurants often experience fluctuations in customer volume due to holidays, seasonal changes, or special events. Managing labor costs during these periods requires careful planning to avoid overstaffing or understaffing.

7. Legal Requirements

‍Labor laws and regulations, such as minimum wage, overtime pay, and mandated benefits, can affect labor costs. Compliance with these regulations is essential to avoid fines, penalties, or legal issues.

8. Employee Training and Development

‍Investing in employee training and development can help improve efficiency and reduce labor costs in the long run. However, the initial investment in training programs can increase short-term labor costs.

9. Location

‍Labor costs can vary significantly by region or country due to differences in local wage rates, living costs, and labor market conditions.

10. Type of Restaurant

‍The type of restaurant (e.g., fast food restaurants, casual dining restaurants, or fine dining restaurants) can influence labor costs. For example, A quick service restaurant (QSR) has lower labor costs than a fine dining restaurant. This is because QSR employees serve multiple customers at a time, and fine dining restaurants require employees who are specialized and trained to deliver a high level of quality. On the other hand, fine dining establishments may require a higher staff-to-guest ratio and employ more skilled workers, leading to higher labor costs. , for example.

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How to Calculate Labor Cost

Calculating labor costs is crucial for managing your business effectively and maintaining profitability. To calculate labor costs, follow these steps:

1. Determine labor cost components

• Hourly wages: The amount of money paid to employees per hour.
• Salaries: Fixed payment amounts for employees who receive a regular salary.
• Overtime: Additional payment for employees who work more than the standard number of hours per week.
• Payroll taxes: Taxes paid by the employer, such as Social Security, Medicare, and unemployment taxes.
• Employee benefits: Costs associated with providing benefits like health insurance, retirement plans, and paid time off.

2. Calculate hourly wages

• Multiply each employee's hourly rate by the number of hours they worked in a given time period (e.g., weekly or monthly).
• Add the total hourly wages for all employees to get the total hourly wage cost.

3. Calculate salaried employee costs

• Add up the total salaries of all salaried employees for the given time period.

4. Calculate overtime costs

• Multiply each employee's hourly rate by 1.5 (or the overtime rate specified by your local labor laws) for every hour they worked beyond the standard number of hours per week.
• Add the total overtime costs for all employees.

5. Calculate payroll taxes

• For each employee, multiply their total earnings (including hourly wages, salary, and overtime) by the relevant payroll tax rates.
• Add the total payroll taxes for all employees.

6. Calculate employee benefits costs

• Determine the total cost of benefits per employee (e.g., the cost of health insurance premiums, retirement plan contributions, and paid time off).
• Multiply the cost of benefits per employee by the total number of employees.
• Divide the result by the number of pay periods (e.g., 52 weeks for a weekly pay cycle, 12 months for a monthly pay cycle) to get the cost of benefits per pay period.

7. Add up all components to find the total labor cost:

Total labor cost = hourly wages cost + salaried employee costs + overtime costs + payroll taxes + employee benefits costs

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What is Restaurant Labor Cost Percentage

Restaurant labor costs refer to the total expenses related to employing staff, such as wages, salaries, benefits, and payroll taxes, while restaurant labor cost percentage is typically expressed as a percentage of the restaurant's total sales. In the restaurant industry, labor cost percentage is a measure of how much of your sales revenue goes to pay your employees. It’s a valuable metric that allows you to monitor how your restaurant is performing financially and make changes as necessary.

Keeping your labor cost percentage in check is crucial for the financial health of a restaurant since it's one of the most significant operational expenses. This is an important metric because it can be used to track your business over a specific period of time. It also gives you a clear picture of how your restaurant is doing overall and helps you pinpoint areas for improvement.

For instance, if your labor cost percentage is high, it may mean that you have too many staff members or they’re not working efficiently. In this case, you might need to implement staff scheduling software or other helpful technology to reduce your costs and increase efficiency.

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Why Restaurant Labor Cost Percentage Important

Restaurant labor cost percentage is important because it is a key performance indicator that helps owners and managers understand the financial health and operational efficiency of their business. Labor cost percentage is one of the most significant expenses in running a restaurant, and effectively managing them is critical to the success and profitability of the establishment. Here are some reasons why labor cost percentage is important:

1. Profitability

‍Labor cost percentage directly impacts a restaurant's bottom line. A higher percentage indicates that a larger portion of revenue is being spent on labor, which could lead to reduced profitability. By monitoring labor cost percentages, owners can make informed decisions about staffing levels, work schedules, and other factors that can help optimize profits.

2. Benchmarking

‍Comparing your labor cost percentage with industry standards or other similar businesses helps restaurant owners and managers understand how their establishment is performing. If labor costs are significantly higher than average labor costs, it might indicate inefficiencies, overstaffing, or other issues that need to be addressed.

3. Budgeting and Forecasting

‍Labor cost percentage is a crucial component of budgeting and forecasting, as it helps owners and managers anticipate future expenses and allocate resources appropriately. Understanding your labor cost percentage can also help identify areas where cost-saving measures, such as cross-training staff or implementing more efficient processes, might be beneficial.

4. Pricing Strategy

‍Labor costs are a critical factor in determining menu prices. A thorough understanding of labor cost percentage can help restaurant owners price their dishes competitively while maintaining profitability.

5. Staff Management

‍Monitoring restaurant's labor cost percentage can help identify areas where staff management can be improved. For example, if labor costs are consistently high during certain shifts or days, it might indicate a need for adjustments to scheduling, training, or other aspects of staff management.

6. Employee Satisfaction and Retention

‍Fair and competitive compensation is essential for maintaining a happy and motivated workforce. By keeping the restaurant's labor cost percentage in check, restaurant owners can ensure they are offering competitive wages and benefits that help attract and retain high-quality employees.

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How to Calculate Labor Cost Percentage

To calculate the labor cost percentage, follow these steps:

1. Determine your total labor costs

Add up all wages, salaries, benefits, and payroll taxes for a specific period (e.g., a week, a month, or a year).

2. Determine your total sales

‍Calculate the total sales or revenue generated during the same period.

3. Calculate the labor cost percentage

‍Divide the total labor costs by the total sales, and then multiply by 100 to express it as a percentage.

Labor Cost Percentage = (Total Labor Costs / Total Sales) x 100%

By calculating labor cost percentage, you can understand how much of your revenue goes toward labor costs, which is an important metric for managing your restaurant's profitability. The ideal labor cost percentage may vary depending on the type of restaurant and its specific circumstances, but it typically falls between 25% and 35% of total sales. This range includes both front-of-house (servers, bartenders, etc.) and back-of-house (chefs, cooks, dishwashers, etc.) staff.

If you want to find out your restaurant’s labor cost percentage, you can use a POS system to generate a report for a set period of time. You can also use this metric to compare your restaurant’s performance over different periods of time.

To optimize labor costs, restaurant owners can monitor the percentage of sales and labor expenses regularly, adjust staffing levels based on demand, train employees to be more efficient, and manage employee schedules effectively.

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What is Prime Cost

In the restaurant industry, prime cost refers to the combined total of the two most significant and controllable expenses: the cost of goods sold (COGS) and labor costs. COGS includes the cost of raw materials and ingredients used to produce the dishes served such as the food costs, while labor costs cover wages, salaries, and benefits paid to the restaurant's employees.

Prime Cost = COGS + Labor Costs

Prime costs are crucial because it directly impacts a restaurant's profitability. To ensure a healthy profit margin, restaurant owners and managers need to monitor and control their prime costs by managing food costs, inventory, portion sizes, menu pricing, and labor productivity. Lowering the prime cost while maintaining quality and efficiency can lead to higher profit margins and a more successful restaurant operation.

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How to Optimize Labor Cost

Labor costs are an important part of running a successful restaurant. They make up a large percentage of your operating cost and can be a big drain on profits, making it vital to understand how to calculate and optimize these costs.

In general, restaurant labor costs should fall within the range of 30 to 35% of your gross sales. This is an industry-recommended goal that gives you a lot of room for other operating expenses and some profit to help your restaurant grow. The ideal restaurant labor cost percentage is between 25 and 35 percent of gross sales, though it varies depending on the type of restaurant and industry. For example, fast-casual restaurants that buy food service items and reheat them are on the lower end of this spectrum, while high-end fine dining restaurants with extensive menus often land on the higher side.

Optimizing labor costs is crucial for the success of your business. Here are some tips to help you manage and reduce labor costs while maintaining quality service:

1. Forecast Sales and Create a Labor Budget

‍Analyze historical data to predict daily, weekly, and monthly sales. Use this information to create a labor budget, allocating resources based on anticipated demand.

To optimize labor costs, many restaurant owners have tried to use 5-Out, the demand forecasting software to help them optimize labor scheduling. 5-Out collects internal data such as POS, labor scheduling, reservations, and events as well as external data such as weather, traffic, and events automatically. And then it utilizes next-gen machine learning metrics to predict upcoming sales and provide powerful insights about labor optimization, helping tons of restaurant owners to reduce their food and labor costs and maximize their profits.

If you are interested in reducing the labor cost by sales projections, request a demo now!

2. Efficient Scheduling

‍Create staff schedules that match business needs, ensuring you have enough staff during peak hours and not too many during slow periods. Use scheduling software to help optimize your planning and reduce overstaffing.

3. Cross-Train Employees

‍Train your staff to perform multiple roles, enabling them to cover different positions when needed. This reduces the need for additional staff and helps you manage labor costs more effectively. This also helps you maximize your employees’ hours and minimize their turnover, which is an expensive and time-consuming process.

4. Monitor Labor Costs Regularly

‍Keep track of labor costs as a percentage of sales, and make adjustments to stay within your budget. Regular monitoring will help you identify trends and make informed decisions.

5. Implement Time Management Tools

‍Use time management software to track employee hours, breaks, and overtime. This will help you identify inefficiencies and areas for improvement.

6. Reduce Employee Turnover

‍High turnover is a major contributor to high labor costs due to the expenses associated with recruiting, hiring, and training new staff. Foster a positive work environment, offer competitive pay and benefits and provide opportunities for growth and development. So it’s critical to keep your employee retention rates high by rewarding your staff and keeping them happy. You can do this by providing them with incentives, ensuring that they have the tools and resources to succeed, and ensuring that you provide a great place to work.

7. Optimize Staff Productivity

‍Implement efficient work processes and provide the necessary tools and resources for employees to perform their tasks effectively. Regularly assess and update procedures to ensure optimal productivity.

8. Utilize Technology

‍A good restaurant management system can help you track labor costs and ensure your operations stay in check. This can include features like payroll, scheduling software, and hourly wages. It can also allow you to analyze employee efficiency and performance so you can spot areas where you can improve your staff's productivity without laying off any employees. This will ultimately reduce your labor costs and increase your overall profitability.

9. Incentivize Performance

‍Offer incentives for excellent performance and meeting targets. This will motivate employees to work more efficiently and contribute to reducing labor costs. For example, you can increase staff bonuses to discourage absenteeism and boost your profits. This can also lower your labor cost percentage and reduce your overall expenses.

10. Regularly Review and Adjust

‍Continuously analyze your restaurant's labor costs and adjust your strategies as needed. Be prepared to make changes based on evolving business needs, industry trends, and new technologies. You can also reduce labor costs by eliminating certain positions or reducing your shift schedules during peak times, such as summertime or holiday weekends. These changes can be very simple and can result in significant savings down the road.