Most coffee shop entrepreneurs begin with a dream. Perhaps they’re passionate about coffee and want to serve the finest coffee and espresso drinks. Or they envision creating a comfortable, inviting environment where friends and neighbors can gather to share the news of the day. Many seek an independent lifestyle as owners of their own business.
The dreams are as individual as the business owner, but they have one thing in common: none can be realized unless the business turns a profit. Without careful attention to the bottom line, the best coffee beans prepared by the most highly trained baristas will be wasted in a shattered dream.
It doesn’t have to be that way. By crafting a solid business plan and employing some simple management tools, you can ensure that your business generates the profit needed to support your dream.
Building to Profitability
How do you know when your business is profitable? By calculating the breakeven point! Breakeven is the point at which your business covers all its expenses and starts generating a profit. Below breakeven, your business is losing money. After breakeven, every dollar brought in is profit. (Keep in mind, though, that income taxes will claim about 35 percent of profits.)
Calculating breakeven is fairly simple. Begin by developing sales projections and identifying fixed and variable costs.
Established businesses project future sales based on their sales history. For a new business, a good rule of thumb is to count on around 1.5 percent of passing cars stopping to purchase your product. This assumes that you’ve done your homework, chosen a good location that is easily accessible to morning drive and/or pedestrian traffic, done your grass-roots marketing, have a drive-thru, and prominently and properly displayed business. Further, garnering 1.5 percent may take a little time to get established.
So, if 6,000 cars pass your coffeehouse between the hours of 7 and 10 a.m., plan to have 90 customers stop in (6,000 x 0.015). You can also expect to see about 5 percent of people working at businesses within a short walk of your shop, plus 5 percent of pedestrian traffic passing by.
Once you calculate the potential number of customers visiting your establishment, we suggest using $4.00 as an average price of what patrons will spend each time they visit. This is fairly conservative and will vary by market.
For the purposes of this article, let’s assume you’ve calculated that 200 patrons will visit your shop each day, spending an average of $4.00. That means daily sales will be $800, and sales during a 28-day month will be $22,400 or 5,600 transactions per month.
Counting Fixed Costs
Fixed costs are expenses that do not vary with sales volume. Often called overhead expenses, they must be paid even if you make no sales at all. Some typical fixed expenses include:
• Rent (no more than 15 percent of sales and should drive toward 7 percent)
• Payroll costs, including wages, benefits, payroll taxes, worker’s compensation, and costs of payroll processing (keep these below 35 percent of sales)
• Principal and interest costs (if you borrowed money to cover start-up or operating expenses)
• Business insurance
For the purposes of this article, let’s assume your fixed costs are $12,000 per month.
Adding up Variable Costs
Variable costs fluctuate with sales. For most coffee shops, these will include equipment maintenance as well as your cost of goods sold (COGS):
• Coffee beans, milks, syrups, and other drink ingredients
• Paper cups, napkins, and other consumable serving items
For the purposes of this article, let’s assume that variable costs average 40 percent of sales, or $320 per day, or $ 8,960 per 28-day month.
Calculating the breakeven point involves simple math:
Breakeven transactions = (Fixed Costs + Variable Costs)/Dollars per transaction
Using the numbers we developed above, the monthly breakeven point would be:
Breakeven transactions = ($12,000 + $ 8,960)/ $4
Breakeven transactions = 5,240 per month
So the breakeven point for this business is 5,240 transactions or about 187 customers / day. Since we projected that 5,600 customers (200 per day) would spend an average of $4 each month, the gross profit for this business each month would be $1,440 ($22,400-$20,960) or $17,280 per year.
Once you know your breakeven point, you can see how changes in business activity affect profitability. When changes occur, you can take steps to maintain a healthy bottom line. If, for example, the cost of coffee goes up, you might decide to raise your prices accordingly. However, raising prices might mean losing customers, especially if your competitors are holding the line. So you might, instead, decide to increase promotional efforts to bring in more customers. Running the numbers will help you decide on the wisest course of action.
Of course, breakeven analysis is just a small part of putting together a winning business plan. Next month, we’ll look at how you can put a plan together in a single working day.
Greg Ubert, founder and president of Crimson Cup Coffee & Tea, has been roasting coffee in small batches since 1991 and has taught hundreds of business owners how to run successful independent coffee houses. The author of Seven Steps to Success in the Specialty Coffee Industry can be reached at email@example.com.