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It is an absolutely razor sharp restaurant labor market out there. While restaurant labor shortages continue challenging the industry, restaurants are also struggling with record-setting employee churn and staff retention.
All this pressure is making labor cost and labor cost percentage even more critical than normal. It's right there with food cost and COGS as a critical component of operating costs — and the other half of your prime costs.
So, what is labor cost and labor cost percentage? And how can restaurant operators accurately calculate them?
Let’s explore how to calculate and reduce the labor costs in your restaurant.
What are the operating costs of a restaurant?
Restaurants have two main buckets for costs: fixed costs and variable costs.
Fixed costs include rent, insurance, and other standard monthly or annual costs that don't regularly fluctuate.
Variable costs include food costs — or cost of goods sold — and labor costs. The labor costs include paying your servers, cooks, dishwashers, cashiers, greeters, and managers. The food costs what you pay for food and beverage supplies.
When you are first starting, you’ll likely accrue some restaurant start-up costs like new equipment, physical improvements, and probably marketing materials like a website. But start-up costs won’t be factored into your standard operating costs.
What makes up labor costs?
Labor cost describes the total dollar amount your restaurant spends on labor, including pay for salaried and hourly workers, as well as taxes and employee benefits.
The amount you spend on labor also affects your prime cost – the total cost of goods sold plus total labor cost – which is the metric that many restaurateurs use to examine their restaurant’s efficiency.
New restaurateurs may be surprised to learn that labor cost includes more than just hourly wages. Here are some other things that factor into your labor cost calculation:
Salaried employee wages (tricky because salaries technically fall into fixed costs, but they also obviously roll up to labor costs)
Hourly employee wages
Sick and vacation days
Basically, anything that can be categorized as “labor-related” goes into your labor cost percentage calculation.
Logan Hoffstetter and his team created an employee emergency fund for staff who might be going through a tough time.
How to calculate restaurant labor cost percentage
There are a few ways to calculate labor cost percentage. We’ll be diving into two labor cost percentage formulas in particular: labor as a percentage of sales and labor as a percentage of total operating costs.
Download our restaurant metrics Excel template at the link below to calculate your labor cost. Then, read on to learn how to calculate labor cost percentage in an easy, accessible way. We'll also give you a few tips on lowering your labor costs while keeping your restaurant running at peak performance.
Labor as a percentage of sales
Labor cost percentage based on sales is the most common formula. Here’s how it works:
Determine your restaurant’s labor cost. This cost includes all the money that the business had to pay to its employees throughout the year.
Determine your restaurant’s revenue. Revenue, in this case, is your bottom line: the amount of money that your business takes in before any taxes or other deductions have been made. You can find this number in your POS system dashboard.
Divide your restaurant’s labor cost by its annual revenue. For example, if the restaurant paid $300,000 a year to its employees and brought in $1,000,000 a year in sales, divide $300,000 by $1,000,000 to get 0.3.
Multiply by 100. This final number is your restaurant’s labor cost percentage. In this example, it is 30%.
Use this formula to determine your labor cost percentage based on revenue.
Restaurant labor as a percentage of total operating costs
Labor cost percentage can also be calculated relative to total operating costs. In this case, the steps are only slightly different.
Determine your restaurant’s annual labor cost. This cost includes all the money that the business had to pay to its employees throughout the year.
Determine your total operating costs. Total operating costs are the total cost of doing business; not just sales, but including costs for marketing, rent, food, drink, and any other expense.
Divide labor cost by total operating costs For example, if labor costs $9,000 per month and total operating cost is $15,000 per month, divide $9,000 by $15,000 to get 0.6.
Multiply by 100. This final number is your restaurant’s labor cost percentage. In this example, it’s 60% of the total cost of doing business.
Use this formula to determine your labor cost percentage based on total operating costs.
Restaurant labor costs by hours worked
Calculating your labor costs by hours worked is a way to segment your staff into different operational groups, such as servers, bartenders, kitchen, and dish room employees. The point here is to quantify the cost per hour for each group.
For example, say you have five cooks each working 40 hours per week and they're paid $20 on average. Here's the formula for calculating cost by hours worked for this cohort:
Average cost per hour of work = (Weekly hours worked by group x Average hourly wage) / 52 weeks in a year
5 cooks x 40 hours each = 200 weekly hours worked by group
200 hrs/week x $20 avg hourly wage = $4000
$4000 total wages per week / 52 weeks in a year = $76.92
After dividing by 52 to get the average over the course of the year, restaurant labor costs for the cooks at this restaurant is $76.92 per hour worked on average.
What percentage of cost is labor?
Guidelines from White-Hutchinson Leisure and Learning consulting group say that restaurant labor costs should come in at less than 30% of revenue, and food and labor costs should be less than 60% of the revenue. Fine dining, however, may have higher labor cost percentages than fast casual eateries.
Read on to learn the changes you can make in your restaurant to control your labor costs and maximize your restaurant’s profitability this year, while keeping your staff’s needs in mind.
How can I lower labor costs?
The answer isn’t to just pay your employees less or to schedule fewer shifts. Here are just a few creative ways restaurants are lowering labor costs:
Pay an employee when they are supposed to start instead of when they clock in. Clock-in reinforcement is a feature of many point of sale systems, including Toast.
Offer bonuses to reduce absenteeism.
Be wary of overtime rules. Many states require employers to pay time-and-a-half or even double-time to employees who work over 40 hours in a given workweek. Hire and schedule enough employees to avoid overtime costs.
Keep an up-to-date tally of how many hours your employees have actually worked versus how many they were scheduled for. That way, you can spot potential overtime offenders before it becomes a problem.
Cross-train and turn your employees into jacks of all trades. For example, if your hostess can jump in when a server goes home sick, she can keep diners happy without adding extra payroll.
Schedule willing employees for a split shift so you're amply staffed at the right times.
Go paperless. Remove tedious pen-and-paper processes from your payroll and labor management processes with products designed specifically for restaurant payroll.
What can you do now?
Reducing restaurant labor costs doesn’t always mean cutting staff or hours or increasing prices.
By using the right restaurant payroll and team management tools and keeping close track of the relevant restaurant operating expenses, then looking at trends, you can work smarter and operate more efficiently as a business.