Food Service & Hospitality ~ Tailored Financial Management And Accounting Solutions!

The Work and Life of a Restaurateur

A chef and his team ready for dinner service.

I understand from first-hand experience that running a restaurant involves a lot of experience, time, money, patience, stress, and heat! I also know that hospitality businesses are some of the most complex structures from a financial management and accounting perspective due to the sheer quantity of accounts and the special treatment of many transaction types.

Small business structures can normally get away with using the primary accounts: assets, liabilities, equity, revenue, and expenses with a few sub-accounts to effectively control and manage their finances, and they may only have current assets (bank account and accounts receivable) and current liabilities (credit card and accounts payable). Restaurants, on the other hand, even when they are a "small business" have the same complexity to their accounting structure as a much larger business, due to the sheer volume of the chart of accounts and the special treatment of some areas, such as inventory management and COGS.

Bookkeeping, financial management & strategy, KPIs, and reporting for restaurants is our specialty!

Eg. Restaurant Chart of Accounts

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POS Items & Chart of Accounts

All food service industries require some type of program to capture the food & drink orders of their customers. This is called a POS - Point of Sales - system, and it needs to work through a systematic workflow, including:

notifying the kitchen when and what items need to be prepared for service,
automatically pricing each item (for the customer's bill and for tracking sales),
knowing which sales taxes apply to which items (because there is a service component in restaurants, it is not as simple as taxation on your raw ingredients, and some items are subject to additional taxes),
capturing the method and final amount of payment and allocating to sales, taxes, or tips, and,
generating a daily sales report for making their bookkeeping entries.

All accounting software requires a Chart of Accounts to properly allocate income, expenses, assets, liabilities and equity. Most industries, with the exception of retail and food service, typically only need to set up their Chart of Accounts for accurate financial tracking, but do not need to concern themselves with a POS or Daily Sales Report. If you are in the food service industry, it is imperative that your POS setup matches with your corresponding Chart of Accounts setup.

By All Accounts Bookkeeping will go through the process with you of reconciling your POS items with your Chart of Accounts, whether you have already set these things up or you're starting from scratch.

Expenses & Cost of Doing Business

EXPENSES & COST OF DOING BUSINESS

Your approach to managing and tracking your operating expenses needs to consider three main categories, prioritized in a specific order of importance. The order of importance is not necessarily corelated to the proportion of your expenses.

Occupancy Costs: Of course, you wouldn't even have a business if you didn't have a location to occupy. Occupancy costs relate to any expense that has to do with keeping your doors open). This is your rent or mortgage payment, property taxes (if you own the building) and all utilities. Although your supplies and equipment are technically capital assets owned by the business, and not an expense, I like to include maintenance and repair of your building and equipment in your occupancy costs, simply because you don't have a business to operate without them. Occupancy costs are not really in your control, either. You don't get to set them, you don't get to choose which ones you want to pay this month, and if you forget to pay them or ignore them, your doors will soon be closed. To a limited degree, you can impact your utilities costs through responsible and intentional utilization, but you can't eliminate them. Make sure you have a plan to keep up with your occupancy costs during down times which usually means making cuts elsewhere, such as reduced hours of operation, seasonal closures, reduced staffing, etc.

Primary (Direct) Expenses: Your primary expenses are 100% within your control, which is why they are also called "controllable expenses". They are also critical to running your business, and include your Labour Costs and your FB&S Expenses (Food, Beverage & Supplies). You should be setting/budgeting targets for each of these in comparison to your sales income in the form of a ratio.

[Formula1] Total FB&S / Total Sales = FB&S Percentage

[Formula2] Total Labour Costs / Total Sales = Labour Cost Percentage

You should be calculating and monitoring your labour and FB&S costs on a regular basis, and compare them to industry benchmarks. Remember, at the end of the day, if your income is not sufficient to, first, cover your occupancy costs, and next, cover your primary expenses, your doors will soon be closed. This is where you can differentiate yourself from the competition by putting out great quality, great service, and appropriate pricing strategies. The more sales you earn, the higher your primary expenses go up. As long as you stay within your ratio targets you are gold! *Note: if you cannot afford to pay your labour costs, then don't bring them in to work. Not paying your employees will get you into deep trouble. There may be times when you have to make a choice between closing at certain times or doing it all yourself.

Note of caution: Many Vancouver Island restaurants are famous for "willy-nilly" hours when they make last-minute decisions to close early, or not open at all because it has been slow, making it hard for your customers to count on you and your posted hours. Don't be that restaurant! Plan your hours of operation, post your hours of operation, and stick with it until you officially decide to change the plan and the posted hours. You want to make sure that if somebody makes the trip to your establishment when you said you would be open that you're actually there to serve them. Disappointing your customer base is the quickest way to a bad review, a ruined reputation, a declining customer base, and poor sales.

Non-essential Operating Expenses: I say "non-essential" because these are the expenses that your operation is not dependent upon to remain open, and when times are tough, these are the first things that you'll stop spending money on or can more easily defer to a later time. However, that doesn't mean that these things are not extremely important to your continued growth and success. Afterall, why would you spend any money on things that are unimportant? Your advertising, marketing & promotion, special events, contributing to your community, updating your decor and small wares, etc. all play a crucial role in attracting more customers to your restaurant, and when you attract more customers, you can hire more staff, expand your hours of operation, make more sales, and ultimately grow your business.

Cost of Goods Sold (COGS)

Importance

Cost of Goods Sold (COGS) is the same as your FB&S expenses, but warrant a little bit more discussion about its special treatment in your bookkeeping. Your FB&S costs are directly tied to your sales revenue. The more sales you make (i.e. the more meal items you sell) the more raw ingredients you need to buy. The more alcoholic beverages you sell, the more alcohol and mixes you need to buy. The more delivery and take-out orders you sell, the more disposables you need to buy.

Unlike a retail store, restaurants cannot easily and directly manage their inventory balances with each item sold. When a store sells a book from their inventory, their accounting system knows the cost of that book, and the COGS expense account increases at the same time the inventory account is reduced by the same amount. Some very large, high-volume restaurants and franchises that need a very detailed COGS accounting have to calculate the true cost of each meal or beverage item sold. This is a very complex calculation based on the cost of the individual ingredients used in a set recipe for every specific meal or cocktail that you could sell. Let's call this the "Difficult Method". When recording the sale of a meal item, your accounting software will move the true cost of the meal out of your inventory and into COGS, so that your inventory value is accurate and your COGS is tracked down to the meal/item level.

Because it is a very time-consuming and onerous activity requiring many labour hours to calculate and track your COGS in this manner, most restaurants just lump all of their FB&S costs into an expense account and use the Journal Entry method to adjust the COGS and purchases expense accounts, along with your inventory balance at the end of a financial period (weekly, monthly, quarterly, or annually). Many restaurants may want to track specific items in a real-time inventory account and COGS account. These would be individually or higher-priced items such as bottles of wine that are only sold by the bottle. It is very simple to combine methods for specific, individual items that you serve.

Calculating & Tracking

Tracking Your COGS with a Journal Entry: With this method, you will enter a beginning balance in each of your inventory accounts based on the cost to purchase. It is easiest to do this right at the very beginning of operations when you can easily report on how much money you spent for all of your inventory, however, if you have been operating for some time without properly tracking your COGS, you will need to do an actual inventory count and go back to your FB&S purchases to determine the beginning balance by account.

Each COGS reporting period:

1. Gather your information: gather information from your books in preparation for your journal entries. You will need your beginning inventory balance, cost of your FB&S expenses by category, and your ending inventory count (YUP! Sorry, you will always have to do an inventory count at the end of the period).

2. Calculate your COGS: Calculate your COGS using this formula:

COGS = [Beginning Inventory Balance] + [Purchases during period] - [Ending Inventory Balance]

3. Create a Journal Entry: At the end of the period your goal is to move your FB&S expenses (purchases) to your COGS Expense account, as well as adjust the balance in your inventory account to match your ending balance. You will create a journal entry that debits your COGS Expense account and credits your purchases and either debits your inventory for an increased ending balance or credits it for a decreased ending balance. If your ending inventory count does not match using the formula above, you may have to write off some inventory to spoilage with your Journal Entry.

It may sound complicated to you, but no worries, we can effectively manage and monitor your COGS as part of our bookkeeping and/or management & consulting services.

Inventory Management

Even though your cost of goods sold (COGS), discussed above, is technically part of your inventory, when we talk about "inventory management" we are referring to those items that you can sell a single unit to your customer or need to track separately, whether it be a bottle of wine, an ounce of spirits per cocktail, or even brand merchandise you sell to your guests.

Many restaurants will want to track quantities and costs of these items in an asset-inventory account because they are more costly to the business if damaged or stolen. Improper sales and service of these items will eat away at your profit margins and can take you by surprise if you lump them in with your FB&S COGS.

Unfortunately, there is an inherent risk of theft with alcohol products (either from staff or customers) as well as increased costs due to improper measurement and over-pouring when serving alcoholic beverages from the bar. Sorry to tell you, but occasionally you might have staff members who are sneakily drinking on the job, a server who is notorious for over-pouring because they get better tips, or a customer who walks out of your restaurant with an expensive bottle of wine underneath their jacket.

We are able to set up your inventory accounts and your separate COGS expense accounts for items you need to track individually. Every transaction involving a tracked inventory item will be entered so that your inventory and COGS accounts are automatically adjusted so you have real-time data on your inventory levels, COGS, and sales income.

Multiple Payment Methods

One of the more confusing aspects of bookkeeping for restaurants is properly recording the method of payment received from the customer. You likely accept cash, debit cards, and multiple types of credit cards. With the exception of cash payments, all other methods will come with their own service charges and merchant fees. The last thing anyone wants to do is go through every single receipt for the day, and record each sale with its specific form of payment. We are experts at taking your daily sales reports (POS summary, Z-reports, etc.) and recording one transaction that correctly allocates your income to the corresponding accounts and your payments to the correct bank account or undeposited funds account.

A note on gift cards: Gift Cards are a form of payment, but you do not recognize any income at the time of selling the card, but only when it is used as payment. When you sell a gift card, you are increasing your gift card liability account, and when you redeem a gift card, you reduce your liability and increase your income.

KEY PERFORMANCE INDICATORS (KPIs) & REPORTS

Defining, Measuring & Reporting

You're in the business of providing an exceptional dining experience for your customers, which includes excellent customer service, a delicious menu made with quality ingredients, and an atmosphere that draws your ideal guest back over and over again, all while earning enough income and effectively managing your expenses. That is no small feat! I am always impressed by any owner that manages to pull it off... consistently.

There's really only one way to pull it off, and that is to know your key performance indicators, define your metrics, track the appropriate data tied to your metrics, repeatedly revisit and report on your progress against your goals, and make timely adjustments to your operations to improve your metrics (whether up to top management or down to your staff).

Choosing the right KPIs and metrics (leading & lagging) is more of an art than a science, although there are some "standard" KPIs in the industry. The art of it involves really understanding how one metric impacts a high-level goal. You can, and should, use the standard KPIs in managing your business, but if you would like assistance with building your own unique KPIs directly tied to your strategic goals (financial, customer satisfaction, repeat customers, reputation, etc.), we can assist you with our Balanced Scorecard consulting service.

Top 10 Key Performance INdicators

Working Capital
Sales
Historical Sales
Cost of Goods Sold (COGS)
Gross Profit
Labour Cost Ratio
Turnover Rate
Sales Per Person
Prime Cost Ratio
Server Benchmarks

Measuring & metrics

Your KPIs are directly tied to your goals and vision for your business. Sometimes you have strategic reasons to define some creative and unusual KPIs to meet a really exceptional goal. The Balanced Scorecard method is uniquely fitted for this process. But any KPI you decide on (usual or unusual) must be measurable, otherwise, how will you know how well you're doing. Your high-level goals are the final destination. Each KPI is a stop along your journey to the final destination, and your metric(s) for each KPI is the detailed map with directions.

You can use two types of metrics for measuring your KPIs -- Leading or Lagging -- with each providing important information on your journey.

Lagging Metrics are the type of measurements and reporting used by almost all businesses because they are easy to measure. They are called lagging because the data lags behind the metric. Looking at our journey analogy, consider lagging metrics as looking in your rearview mirror. What has happened behind you, in the past, that has resulted in where you are now. How far have you come? If you take a look at the Top 10 Key Performance Indicators above, you will notice how all of these are measured by historical data - you've entered the transactions or data into either your POS or accounting software after something happened, and then you pull a report that summarizes or details how it calculated the measurement. While lagging metrics are critical to managing your business, they don't really tell you well you are managing all of the other aspects required to reach your destination. They tell you more about the past and not an awful lot about the road ahead. For that, you'll need a good GPS navigation system AND knowledge of all of the outside factors that are in your control to make the journey as efficient and enjoyable as possible.

Leading Metrics are your GPS navigation system that looks down the road combined with other behaviours and actions that you believe will have a positive impact on your goal. They are called leading because they are better-geared towards giving "hints" at the path ahead and defining specific actions that a person is accountable for in the process of reaching your goals. Yes, the data is often still in the past, as you can't measure what hasn't happened, but they can also be processes and policies that your intuition tells you will have an impact on your growth. The trick to defining leading metrics is to creatively think about what types of activities will best give you clues and hints about how well you're doing and what you need to do to make it there safely and on time. Like a GPS, they tend to rely more upon where you are at this moment and how much further you have to go to reach your destination, rather than how far you've already come. Defining your leading metrics is the most artistic, and less scientific, approach to reaching your goals. Some examples might be: stopping for bathroom breaks, keeping your temperature control at a certain setting to increase comfort and keep you alert, bringing a sufficient amount of snacks and coffee so you don't have to stop for too long, planning driver swaps at certain intervals, using cruise control, etc. All of those examples would intuitively seem to make your journey more efficient and pleasurable.

One more point on KPIs... you can set KPIs for your entire business, and then drill down to your kitchen and front-of-house teams, and further drill down to the individual employee with their own targets and progress reports.

Reporting, Analyzing & Taking action

Once you have decided on all of your KPIs and the metrics that you will use to assess your performance, you will have to figure out a way to catch all of the data for each measurement. Lagging metrics are very straight-forward because the data is already contained within your POS and accounting systems. Leading metrics are more challenging since you might have to start collecting and recording new data to produce your reports. Even though it is more challenging, it is well worth it! If you've thoughtfully chosen your KPIs and metrics, track your data, and review your reports on a frequent and regular basis, you WILL see progress and growth.

Each metric will likely have different reporting frequencies determined by the required amount of data over a period, the criticality of the measurement, and the practicality of collecting data. You should decide what the reporting frequency is for each metric, and then set your reporting schedule accordingly. Simply run the reports for the period(s) you want to review.

Be strategic and intentional when reviewing your management reports. Really understand what the data is telling you about where you've been and whether you're happy with progress or disappointed with the lack of progress or slow pace. Decide if you need to tweak something about your KPIs or metrics. Do you need to offer some type of incentive to some of your employees? Do you need to address issues with some of your staff? Do you need to change the metric? This last one might rear its head when you know that you are making good progress based on your other metrics, but one particular report is consistently not matching the result. This is an indicator that when defining your creative and unusual leading metric, that it wasn't the right metric for the KPI. It happens! That's why it is an art. Know when to drop a metric and try to replace it with one that will hopefully give you a better picture.

Depreciation & Amortization

Depreciation and amortization are two accounting methods used to spread the purchase "expense" of an asset over the useful life of that asset. As time passes, your depreciation and amortization expense accumulates (increases) and the book value of the asset decreases. Each method is used for different types of assets.

Depreciation

The rules of accounting in Canada dictate that you cannot write off the full cost of capital assets all at the same type you pay the purchase price, because presumably, the asset is going to help you earn income for the entire period that you own it and it is working. Capital assets, also called long-term assets, are things like your kitchen equipment, vehicles, furnishings, etc. Capital assets are tangible, in that you can touch them and see them - they have a physical form - meaning that you could damage it, repair it, maintain it, and ultimately sell it when you are finished with it at fair market value.

Calculation of depreciation is done by taking the total cost of the item and dividing it by the number of years that you anticipate it lasting you. E.g. You purchase your commercial range for $20,000, but you are not able to claim the $20,000 as an expense at the time of delivery. Rather, you purchased a range that has an expected life of 10 years, and so you can expense $2,000 per year for the next 10 years. *In Canada, the CRA dictates the classes of capital assets and the corresponding depreciation rates so you won't actually use the calculation method, although CRA's rates are fair and reasonable for the different classes. Your bookkeeper or accountant will use the prescribed depreciation rate for the class of asset to prepare adjusting entries which will reduce the value of your asset by increasing your depreciation expense. Depreciation expense reduces your net income, and therefore, reduces your tax liability. This expense is on the asset side of the balance sheet, unlike other types of expenses.

Using our example of the $20,000 commercial range, which falls within the CRA Capital Asset Class 8 with a 20% annual depreciation rate, the adjusting entry at the end of the year will be $20,000 x 20% = $4,000 per year of depreciation expense. After five years, you will have entirely expensed the purchase price, with a book value of $0.00. If it is still working and continues to earn you income, that's fantastic - your net income will increase on your income statement as you can no longer claim depreciation expense on a zero-value asset.

Gain (or Loss) on Disposal of Assets:

If you are in business for awhile, you'll likely have a time when you need to dispose of an asset. There are a few situations that precipitate a disposal of asset:

buying a newer (better, faster, bigger) unit
your current unit broke down and cannot be repaired
your current unit is starting to cost you too much in maintenance and repairs
you no longer need a unit because you are making changes in your business

You could end up with a claimable gain or loss on disposal of an asset depending upon the difference between the sale price (disposal value) less the book value.

Sale Price - Book Value = Gain (or Loss)

Back to our range example, which now has a book value of zero. If you sell the range any amount, you will have a gain on disposal of the asset for that amount.

(Sale Price: $2,500) - (Book Value: $0) = $2,500 gain

However, if the range failed to keep up with your needs after only three years, with a book value of $8,000, but you can only sell it for $5,000, you will record a capital loss.

(Sale Price: $5,000) - (Book Value: $8,000) = <$3,000> loss

Your negative value represents a loss and can be claimed as an expense, while a positive value represents a gain and must be reported as income.

CRA's Capital Cost Allowance (CCA)

Amortization

Amortization is really identical to depreciation except for the type of assets you would amortize. You probably have heard of amortization in relation to mortgages when talking about the period of time your expenses are spread out over. You might get a mortgage to purchase your own home, or maybe even the building for your restaurant, with an amortization length of 25 years. This means that you are spreading your payments out over 25 years, and the lender is not receiving their interest income over 25 years.

The key difference between amortization and depreciation is that amortization applies to intangible assets while depreciation is used for tangible assets. What's an intangible asset? As explained above, tangible = physical, while intangible assets are not physical but are still valuable to your business. Because they are not physical, it is more difficult to assign a dollar value to them. Examples are such things as goodwill (reputation), franchise agreements, liquor licenses, branding, websites and social media profiles, YouTube channels, etc. Smaller businesses don't normally need to assign a value to these items and put them on their Balance Sheet, that is usually reserved for public companies that have gone through a detailed value assessment and they must include special notes on their financial statements.

*Restaurants & Amortization: Restaurants would normally deal only with Leasehold Improvements and Interest Expense (on a mortgage or loan). Calculations are simple as you will amortize leasehold improvements straight-line over the period of the lease. Interest expense can be entered as an expense when it is paid. If you have a an amortized loan which includes principle pay-down and interest expense in the same payment, you will have to create a Journal Entry to split your payment into the appropriate notes payable and interest expense accounts based on your amortization schedule or annual statements of interest paid.

TOP 5 ACCOUNTING MISTAKES

#1 - Using Professionals inexperienced with REstaurants

Restaurants have KPIs, reports, and tax structures that are unique to them (tips, weekly reporting, critical labour, special treatment of inventory, etc.). I'm sure by now you see how complicated your chosen field is from a financial management and accounting perspective, and that's why you should hire a bookkeeper that is an expert in their field as well as yours! Lawyers, accountants, financial advisors... all professionals you hire should be experienced in the restaurant and hospitality industry.

#2 - Bookkeeping errors

The food service and hospitality industry is notoriously intolerant to bookkeeping errors. There are so many small details that are easily overlooked such as recognizing a meal discount, recording sales as revenue without consideration of COGS, logging a payment from a gift card to the incorrect payment type, etc. When you enter your transactions incorrectly into your accounting software, your financial statements and KPI reports will be skewed and are no longer useful tools in managing your business.

A bookkeeper who understands the industry, as well as your specific chart of accounts, is more likely to catch the errors when reviewing your receipts and bills than an accounting clerk entering your data or a bookkeeper who is inexperienced with restaurants. Alas, to err is human, and bookkeepers are human too. The best solution to this problem is to integrate your point-of-sale (POS) system with your accounting software if possible.

#3 - Improper Accounting Periods

Choosing your accounting periods is important, especially when reporting and monitoring your KPIs. Monthly periods are not the best-suited for restaurants because they are not equally comparable to other months or the same month in prior years (they won't have the same combination of weekends and weekdays). When comparing your accounting periods, you need to accurately compare revenue and expenses based on times that are equally as busy (or slow).

Trick question: how many months have 28 days?

Answer: all of them, of course.

We recommend that you use the hypothetical "13 month calendar" - four weeks per period - for your monthly accounting periods.

#4 - Lax Attention to KPI Monitoring

As discussed in the section on KPIs, you can determine different measurement and reporting periods for differing KPIs, but you should, at minimum, review your prime costs (labour expenses and FS&B), inventory, and COGS on a weekly basis. These are the main areas that can quickly go sideways and you'll want to be proactive at tweaking things before they completely go off the rails. It's much easier to adjust course midway through your trip than to keep going in the wrong direction for too long.

We can run a variety of reports for you on your schedule, as well as provide useful analysis and insights.

#5 - USING THE WRONG ACCOUNTING METHOD

There are two types of accounting methods, cash basis or accrual.

Cash basis accounting is the simplest and most commonly used in general (especially for restaurants)

You record revenue on the day it actually comes into your bank account.
You record expenses on the day that you pay for them.

Accrual accounting tracks revenue as its earned and expenses as they appear, which is frequently different than when the money actually flows into or out of your accounts.

The accrual method of accounting uses the "matching principle" which means all profits and related expenses should be recorded in the same period or by project.
Accrual provides a more accurate depiction of your financial position and is a great fit for restaurants.
*The CRA requires businesses to use the Accrual method of accounting for their tax returns, and although you can use any method in-house, you'll have to revert to Accrual for your return. I recommend Accrual for all of my clients.

Restaurants frequently choose cash based accounting but this is not right for restaurants because recording your income each day, but your food supplier invoices a few weeks later, makes your restaurant seem more (or less) profitable that you actually are. Please use accrual accounting so your profit margins are accurate and your COGS is recorded as you are using your inventory, not when you pay your suppliers.

Food Service & Hospitality ~ Tailored Financial Management And Accounting Solutions!