Lately, you’ve probably heard rumblings about an economic downturn, or “recession.” Folks are talking about tariffs on Chinese goods, tumultuous trading days on Wall Street, mentions of bubbles, and something called an “Inverted Yield Curve” is described like the economy’s Grim Reaper (Planet Money has an amazing podcast episode on the Inverted Yield Curve). Let me preface this discussion with this: The information provided in this post is should not be considered legal or financial advice. You should consult with a Certified Financial Planner for investment advice to determine what may be best for your individual needs. With that being said, no one is really sure when the economy will tank, but because it’s discussed so much as of late, what better time to take a look at battening down the hatches and preparing for an economic storm that could sink your ship?
Let me take off my Captain’s hat and whip out my Economist’s… uhh, sweater? The first thing to remember here is that demand for restaurants are elastic, meaning that if a recession hits, consumers will quickly decrease their consumption of that good in favor of something else. In this case, diners will quickly replace going out to eat, with making dinner at home. It’s a well known fact that restaurant consumption is one of the first discretionary expenses to be cut when a consumer gets cold feet.
With that being said, there are a few organizations that keep track of the temperature of consumer’s feet. The Consumer Confidence Board takes a monthly survey to measure consumer’s confidence in the economy (Called the Consumer Confidence Index, if you can believe it) which provides you with some insight as to how people are feeling. If the index drops, it’s a safe bet that restaurant revenue will drop as well.
The second indicator is the National Restaurant Association’s Restaurant Performance Index, which records restaurant owner’s outlook on business conditions.
Know your breakeven point
Take a look at your two major costs: Prime Cost Margin and fixed costs (General Administrative Costs + Occupancy Costs). From there, we do a little more math. You may recall in algebra, the ol’ y = (am)x - b
Y = Profit, in this case 0
A = Check Average, in this case $35
M = Prime cost, for this example 40%
X = unit sales, in this case your unknown
B = fixed costs, in this example, we’ll say $8,000
In this case, once you do all the maths, you’ll need to hit 571 covers in a month to break even, which breaks down to about 19 covers per day. Now, why did we do all this work? Well, take a look at your sales in your roughest months over the last year. Are there a few days of the week where you are barely hitting that number, or not hitting that number? If Monday and Tuesday your hitting the mid-teens, your losing money by being open. This isn’t a terrible thing when times are good, but if consumer confidence drops, sales are likely going to drop with it, and it's worth shutting down 1-2 days a week to cut losses. While sales numbers will decrease, profitability will increase. It’s worth noting, however, that you should only change your hours during extreme circumstances! Restaurants that frequently change hours of business are asking to be sent to Davy Jones Locker (I put my captains hat back on).
Decrease Inventory & Menu Design
Another area for quick improvement is to take a look at your menu. If sales drop, you should slim down your menu. Consider dropping your lowest sellers, or least profitable dishes. Slimming down the menu allows you to purchase less inventory, and therefore, make money off of your inventory faster (this is known as inventory turnover). The more you turn your inventory over, the more profitable your business becomes. If you have five proteins on the menu, and the pork chops are the least popular, drop the pork chops, as they tie up a ton of your money in inventory that isn’t selling.
Don’t Invest in Building Improvements or Equipment
Thinking about replacing a stove, or adding another truck to your catering business? Hold off. You may have the money in the bank for it now, but you need to make sure you have enough cash in reserve for an extended period of terrible sales. Only invest in what is necessary to keep the business running until you hit your goal cash reserve. Once you hit that reserve, don’t handicap yourself by hoarding every dollar you earn, continue investing in areas of your business that will increase your revenue.
Get a Line of Credit
Don’t get a line of credit when you need it, get a line of credit when you don’t. If you are strapped for cash, and have maxed out all of your credit, you shouldn’t be walking into a bank looking for a loan, you should be looking for a loan when you have ABSOLUTELY no need for one. The bank is much more likely to approve you.
Build Enough Cash for a 6-Month Storm
Easier said than done right? A recession can last anywhere from 8-18 months, so this cash reserve isn’t necessarily enough to last you through the whole economic event, but it will give you the runway to continue to make adjustments so your ship can withstand the storm. So, how on earth do you figure out how much cash you need? Take a look at your “Statement of Cash Flows” during your worst months, and then look at a couple of years. Pull out anything that’s out of the ordinary (did you buy a new fridge in february?). If you lose an average of $10k, every month from December to April, then you’ll need 60k in the bank to protect yourself from the storm.
Finally; Consider Selling
Why on earth would I sell?! I am finally earning some decent money this year! Yes, I know, that’s why I am telling you to sell. Buy low, sell high. The time when you really don’t want to sell your business is exactly the time to sell your business. Don’t wait until your business is out of money and ready to close the doors to consider selling, because your going to get pennies on the dollar.
All in all, restaurants are actually more resistant to economic downturns than other businesses when run correctly. As long as your fixed costs are not astronomical, and you carefully watch your prime costs, you’re in a much better position as a restauranteur than a real estate agent, real estate developers, or luxury retail