How Do Restaurants Make Money? Your Questions, Answered.

A restaurant makes money when its revenue is greater than its expenses. The difference between a restaurant’s gross revenue and its expenses is called its profit, and having wide enough profit margins is essential for success. Understanding profitability is a key way to help your restaurant make more money, so doing a deep dive into the question of “how do restaurants make money” is a good idea for veterans and newcomers alike.

How Restaurants Make Money

Restaurants bring in revenue primarily by selling food and beverages, but also by offering catering, restaurant delivery, and event packages. While all of these offerings put cash in a restaurant owner’s pocket, there are a lot of expenses that need to be accounted for to calculate profit margins. From ingredients, to labor, to operational costs, the difference between gross revenue and net profit is often vast.

Understanding Restaurant Profitability

If you’re interested in starting a restaurant, you’re probably asking questions like: How much do restaurant owners make? How much do restaurants make a year? How profitable are restaurants? While there are no one-size-fits-all answers to these essential questions, there are a few things you need to understand about restaurant profitability. 

What Contributes to Restaurant Profitability

There are a plethora of factors that contribute to a restaurant’s profit margins. While everything from the kind of napkins you use to the brand of hand soap you stock in the bathroom can make a difference, there are three main determinants you need to be aware of:

• Cost of Goods Sold (CoGS): This one is exactly what it sounds like — how much you pay for the ingredients that go into your menu items.
• Overhead: Overhead refers to things like rent, electricity, gas, internet, the fees associated with using restaurant online ordering systems, etc. The size and location of your restaurant are major factors that impact how much it costs to keep your doors open.
• Labor: You need strong teams in both the front and the back of the house to make a restaurant functional — but you also need to pay them. It’s important to strike a balance between having enough hands on deck to make service run smoothly and keeping your staff lean enough that your labor costs aren’t too high.  

How to Calculate Restaurant Profits

Whether you’re running a restaurant franchise or a family business, there’s a lot more involved in making money than just having cash left over at the end of the month. Take a look at how to calculate restaurant profits:

• Gross profit only accounts for the difference between sales and your cost of goods (total sales - cost of goods).
• Net profit accounts for the difference between sales and all other expenses (gross revenue - total operating expenses).
• Net profit can be expressed as a percentage (net profit/revenue x 100).

Average Restaurant Profits Industry-Wide

As we said, the answer to how profitable are restaurants isn’t one-size-fits-all. Restaurant profits margins range from 0%-15%, but the average usually falls somewhere in the 3%-5% range.

Restaurant Break-Even Points

Break-even points are metrics that let you know how much revenue you need to generate in order to cover your basic costs. Meticulous balance sheet preparation is crucial for understanding these important pieces of information. There are two main types of break-even points:

• Cash Flow Break-Evens: Everything from government assistance, to debt servicing is accounted for in a cash flow break-even. Since it accounts for more than just your profitability, you should look into factors like restaurant business loans and other financial determinants as you think about this metric.
• Operational Break-Evens: This one is more straightforward and lets you know how much money you need to make in order to be able to pay your bills and keep your doors open. 

Why Restaurant Profit Margins are Low

Restaurants' profit margins are notoriously low. As wonderful as the hospitality industry can be, it can be difficult to make money because restaurants have so many expenses they must cover. Plus, menu prices have to be low enough that people will actually be willing and able to patronize your restaurant. It takes a lot of active work and planning to generate income, and the hands-on nature of the business is costly. 

Most Profitable Restaurants

While average restaurant profit margins are low across the entire industry, some restaurants are much more profitable than others. Of course, providing guests with delicious food, great ambiance, and excellent service makes a difference, but so do more quantifiable factors like location and restaurant type.

How Restaurant Type Can Affect Profits

Some restaurants focus on offering lower-cost menu items at a higher volume, while others focus on offering expensive menu items to a small number of people. Generally speaking, the former restaurant type tends to be more profitable, since full-service restaurants have more operational costs compared to the statistics in fast food, quick service, or delivery-only models.  

5 Most Profitable Types of Restaurants

Of course, any type of restaurant can make a profit when operated correctly, but if you want to set yourself up for success, take a look at the five most profitable types of restaurants:

• Bars: There’s a lot of money to be made on alcohol. Not only can bars markup the cost of booze significantly, but they also don’t have to worry about the operational costs of running a full-service restaurant.
• Diners: Diners tend to serve meals made with affordable ingredients (like breakfast items), and they also usually turn tables quickly.
• Food Trucks: Not having to pay rent on a brick-and-mortar location often translates to huge savings.
• Delivery Only: These models save on dining space and front-of-house labor costs. They also don’t have to worry about decor or ambiance, which helps reduce expenses.
• Pizzerias: Pizza is relatively inexpensive to make, and pizzerias can capitalize on both dine-in business as well as restaurant takeout and delivery operations.

How to Increase Restaurant Profits

If your restaurant is making less of a profit than you’d like, don’t worry. There are plenty of steps you can take to boost your bottom line. Taking a good look at your current practices and being willing to do the work to implement new strategies are keys to increasing your earning potential. To get started, consider using a few of the following tactics:

• Upselling: You’ll notice a big difference in your profit margins if you can increase the average check of each guest by even a few dollars each. Training your staff on how to upsell means they’ll walk away with more money, too.
• Negotiating Lower Prices with Vendors: Lowering your CoGS is possible when you establish good relationships with vendors. You could be paying too much for ingredients without even knowing it, and it never hurts to try to negotiate.
• Offering Specials: Specials can help reduce food waste by using up ingredients that would go bad otherwise. They can also make your guests’ experiences more enjoyable, especially if they dine at your restaurant frequently.
• Changing the Menu: Changing menu prices as well as what’s on offer are both worth considering if you want to boost your profits. Looking into your sales data can help you understand which items are working, and which items need revision.
• Marketing: Cultivating a strong online presence is crucial in today’s world, so stepping up your marketing game can help you drive traffic and boost sales. Offering restaurant loyalty programs also works to drive repeat business.

Other Ways to Help Your Restaurant Make More Money

Once you’ve considered the strategies above, you can take your efforts to boost your restaurant sales even further. Sometimes thinking outside the box to incorporate new streams of revenue can help more than you may realize. Even though restaurants typically make most of their money from selling food and beverages, you can also consider:

• Catering: Since catering happens off-premise, you can increase sales without sacrificing space in your dining room. Plus, people often turn to catering services when they need to place a large (expensive) order, so adding this option can translate to big profits.
• Selling Merchandise: Restaurant merchandising is a win-win strategy because not only will you get to keep the money you make on selling gear, but merchandise also works double-duty as easy advertising.
• Franchising: Franchises are a popular business model for a reason — they’re profitable. Selling your brand and concept to someone who’s willing to take on the heavy lifting can be a great way to generate income.
• Renting Your Space: People are willing to pay top dollar when they need an event for a special occasion. Restaurant special events give you the chance to charge for food packages, open bars, and even cleaning fees.  Just be sure to price your event packages correctly so that you don’t miss out on the revenue you would have generated from regular service.