When starting to build a food business, the initial drive is often related to flavor, recipes or even just to bring something new to local markets. Founders of boutique bakeries, bustling catering services or specialized packaged food lines initially focus on perfecting their offerings, sourcing best ingredients, and on how to get their products in front of their customers. Once orders start to pile up and the kitchen begins to expand, the business starts to grow and entrepreneurs need to pay attention to the numbers to keep the passion sustainable in the long run. Passion keeps doors open, numbers keep the lights on.
However, as your orders grow and your kitchen expands, the reality of running a business sets in. Your passion for your business keeps the doors open but the numbers keep the lights on. To ensure your business remains sustainable it is important to measure the financial health of your growing food business. It is not necessary to be an accountant but there are a few key concepts that you need to grasp in order to create a sustainable business.
Understanding the True Cost of Your Ingredients
Fluctuating costs of raw materials such as flour, dairy products and seasonal produce can eat into the margins of food manufacturers. Understanding the cost of your goods and how to calculate this is crucial to the success of your business. This is especially relevant for those operating in the food manufacturing sector as the margins are already thin and any fluctuation in ingredient costs can result in a loss of profit.
To accurately measure your cost of goods sold, you must first measure the cost of every single ingredient that goes into the finished dishes and products that you sell. For products made from dry ingredients, you can typically measure the amount of each ingredient in terms of weight (in ounces or grams for example). For products that contain liquid or greasy ingredients, you will typically need to measure the amount of ingredient used to make each batch of product. By knowing the exact cost of each ingredient on your menu, you can accurately price your menu items to ensure that you are making a fair margin. You must regularly review the cost of your ingredients to ensure that your prices are accurate and reflect current market prices.
Tracking Prime Cost for Food Operations
As a primary component of cost of goods sold, the cost of ingredients is crucial to a food business’s margin and profitability. By tracking the fluctuating costs of various raw ingredients, a business can assess the affects to their bottom line. However, the cost of a company’s food is only half the equation to computing a company’s prime cost. The other half consists of the total labor costs to prepare and serve meals. When you combine the cost of the food with the cost of labor, you obtain a number of great importance to any food entrepreneur: the prime cost.
In terms of labor costs, the number of hours your staff work in food preparation, packaging, and cleaning as well as in administrative tasks is included in the calculation of your businesses’ prime cost. For growing businesses, it is crucial to keep the prime cost at a reasonable percentage of the total revenue of your business. If your prime cost is too high, your prices are most likely too low or your kitchen not efficient enough.
Demystifying the Corporate Snapshot
Of course, after a while of running a food business it is necessary to have a look at the big picture. All financial information about a business, including cash receipts, can be organized in a so called ‘corporate snapshot’ (also known as balance sheet or ‘equity position’). Balance sheets (or ‘statements of financial position’) provide a ‘snapshot’ of a company’s financial position at a specific moment in time, and are commonly used in conjunction with ‘profit & loss accounts’ and other financial reports to provide a more complete picture of a company’s financial health.
When reviewing balance sheet examples, try to get a feel for how a typical financial overview of a business is laid out. A typical breakdown of a business’s financial situation would include the company’s assets, liabilities and the owner’s equity.
Assets are the physical objects of value that your business can use to create income. These include everything from commercial ovens and refrigerators, to delivery vans, and cash found in registers. As liabilities are the amount of debt a business has, such as equipment loans, current supplier’s balances, credit card balances, checking and savings account overdrawn balances, etc. It is essential to calculate a business’s owner’s or investor’s equity. This figure reveals how much the business is really worth once all of its liabilities have been subtracted from its assets. By regularly calculating a business’s corporate snapshot, business owners can build a real business and not just a job.
Managing the Cash Flow Cycle
Food businesses are usually operating with a very fast cash cycle. This means that before customers or retail partners have paid for the food that you have served to them, you have already spent the money for the purchase of the raw materials, the labor for preparation and for the rent of the commercial kitchen space. Large corporate clients, such as supermarkets, might pay as late as 30 to 60 days after receiving the food. In that case, the cash would have left the account of the entrepreneur already before he has received payment for the orders that he had delivered weeks earlier.
Keep track of the cash going in and out of your account. This is very different from your sales numbers for the month. Just because you had a fantastic month of sales and brought in a lot of money, doesn’t mean you have cash in the bank. Follow the cash to see when it will be in your account to pay your suppliers.
Setting a Routine for Financial Clarity
Your food business will inevitably decline if you’re ignoring your numbers until tax season. Many businesses fail before they ever reach the end of their first year of operation due to ignorance of their numbers and the corresponding inability to make timely adjustments in order to prevent declines in profitability.
Scheduling the financial health of your business on a regular basis is so important. By reconciling your bank statements and completing other financial tasks on a weekly basis, you will be able to manage your finances on a consistent basis in a timely manner to reach your goals. There is nothing worse than having to complete all of the financial tasks for your business in a short amount of time before tax season. You can avoid this arduous task by making the financial health of your business a priority throughout the year.