Tuesday, October 29, 2013

Cafe Accounting Episode 1

 
     You're an expert in your field.  You have been working as a barista for several years now, you know your craft, and all of the details and procedures necessary to run a successful cafe.  Your current boss trusts you with the keys, the security codes, the cash register and their customers...for good reason.  Every day you show up early, eager to calibrate your espresso grind and pull some shots so that when the first customer arrives, you can confidently look them in the eye and boast "I made this...for you".  Every shift offers new challenges, mechanical,  procedural, staffing, quality control and customer interactions, but you are up to it and deal with everything like a pro.  There are things about the business that you don't quite understand yet, but that's what keeps you eager to show up early and master whatever presents itself.
Everything about you says "I'm ready to run my own espresso bar" except one thing...money, how to track it and how to make it, after all, you can't make espresso unless you make money.
You know what your boss charges for coffee, heck, you even know what Starbucks charges for coffee, and they both seem to be making lots of cash.  How hard can it be?  You know that customers LOVE the drinks you prepare and how you serve them and you are confident they'll come if you had a store of your own.

If this sounds a little like you, then I hope to provide you with the financial knowledge and confidence to leverage your skills into running your own shop.  In the next few posts I'm going to produce a narrative that I hope will be easily understood for even the most timid budding masters of coffee business.
I'm going to make this series as easy to read as possible (even a bit corny), with very few Financial Terminologies, and a lot of common words and phrases so that you completely grasp the concepts used in EVERY business financial statements.  This is not going to be a post, but instead, a series of long posts walking you through the steps a new cafe owner would take in Mastering the Finances of their business.  I expect to edit this many times once it is posted, to make it flow better, include some details that readers notice are missing, or add things that I should have noticed on my own.  This series is intended to give you power over your own business finances, and if I am happy with the result, I hope to work this into a presentation which I hope to debut at a coffee industry event in 2014.  I hope this in helpful.

Here we go:

You've got a great idea to open your own espresso bar, fortified with several years of experience as a barista and a few more as a store manager.  There is a great spot that opened up in a promising neighbourhood (not too close to the shop you manage), and you think this is the time to finally act on your dream of owning your own shop.  You've been saving up your tips and even have some money that your grandparents gave you for a graduation present.  All together you've $20,000 of hard earned cash as seed money for the rest of your life.  This money represents countless hours of dedicated work, great customer service, not to mention the hopes and wishes entrusted to you by close family...it is a significant amount of money and not something to be committed without planning and diligence.  If you are going to dedicate this money as your seed money for your dream business you had better find a way of keeping track of it.  It represents your business hopes and you want to know it is safe. To keep track of it you write your investment down on paper.  On the left side of the paper you write:


That feels great.  Twenty grand is a lot of cash and it looks even better on paper, but hey, did you notice that the 2 sides equal each other?  Why?  
On the left side of the paper we record the valuable things the business has, and on the right...who owns those things.  Just because the business "has" things, doesn't mean it owns those things.  In this case, the Owner's Investment is something to be used by the business...but make no mistake, you own it.  At the bottom of this page you add up all of the items in each side and create a Total, with equal numbers on each side...What The Business Has, and Who Owns It.  Balanced, just like a BALANCE SHEET.  This is the first financial term you will become familiar with.  Get comfortable with it,  Balance Sheet...What the Business Has (Left Side), Who Owns It (Right Side).


Now just because you are new to business doesn't mean you are foolish or unrealistic...in fact the opposite.  You are careful, thoughtful, and diligent because this is your dream we're talking about.  You've penciled out an equipment list along with some quotes from local tradesmen, and you know for a fact that you will need at least another $80,000 to start your business.  While you've been saving and planning for years, you are still very short of the money needed to start your shop, but good news arrives just in time.  All that planning has paid off when your application for a bank loan attached to a government sponsored program to encourage new business is approved!   The faith the bank and the government has placed in you and your business is well founded.  The experience you bring to the table, and your own investment seals the deal for you, but we now need to record these new funds in your new BALANCE SHEET.



Now THAT is impressive, $100,000.  On the left side of the sheet the business has $100,000 to use to get the business off the ground.  On the right side of the sheet you record the $20,000 that belongs to you, and $80,000 which belongs to the Bank.
The Left Side = The Right Side...Balance Sheet.

Now is the time to introduce two new Financial Terms, Assets and Liabilities.
We are going to replace "What the business has" with Assets.
Assets are things that the business can use that have value ie Cash

We are going to replace "Who Owns it" with Liabilities.
Liabilities are things that the business Must pay back ie Loans

When an owner makes an investment in their own business it is also something which the business Owes, but most owners don't draw on this money until the business is making enough money to pay it back.  So instead of simply recording it as "Owner's Investment" like a Loan we are going to place it under the Heading "Owners Equity".  Equity means:  Owner's Share.  In this case, the owner's share of the $100,000 = $20,000.  Got it?  So let's re-do the Balance Sheet to reflect these changes.






Now is the time to introduce you to the most important rule of Accounting.
ASSETS = LIABILITIES+OWNERS EQUITY
Memorize this, it is the equivalent of "the sun rises in the east" for accounting.



Now that you've accounted for the new Bank Loan and introduced some fancy new accounting terms you're feeling pretty good about yourself.  You've begun to feel some power and ownership over this enterprise and you are developing a sense of control.  All of the preparation time and effort is paying off when your contacts within the coffee industry come through by telling you about a relatively new cafe that has closed its doors, having run out of money and stopped paying its rent.  The landlord, after seized the equipment, is offering the equipment and fixtures for sale and is willing to take an amount roughly equal to 50% of the original purchase price.  For the grand total of $30,000, you take possession of a lightly used espresso machine and grinder, a bean grinder and scale, 10 tables, 20 chairs, blender, signage, some small wares, two refrigerators plus an awesome display refrigerator.  You know that there are many things you will still need to buy before you open your shop, but this is a great find and you close the deal with a handshake.  A handshake is all it takes because you are good to your word.  You arrange with the landlord to pick up the items (after preparing a certified cheque for 
$30,000 payable to the landlord) and talk your parents into storing the items in their garage until your beautiful new space is ready.  Lets now make an entry to reflect the changes.


Notice how our Balance Sheet has changed.  On the Assets side, we have exchanged $30,000 in cash for $30,000 in equipment.  The total value of everything has not changed at all...you still have $100,000 in Assets.
Notice that nothing has changed on the Liability Side of the Balance Sheet.  Everything remains the same.  The total must equal $100,000 because remember, we are working on a BALANCE SHEET.  The left side always equals the right side, and when that happens:
ASSETS = LIABILITIES+OWNERS EQUITY


While negotiating your bank loan, sweet talking your parents, high fiveing your buddies and scoring big on the equipment purchase, you also found time to get a great deal on a 5 year lease for that awesome corner spot you've had your eyes on.  After reading a blog on the subject, (see my post on Negotiating a Lease) you decided to ask the landlord for a contribution to renovating the space.  You're not sure whether it was your steely gaze, you playing hard to get, or the landlord's faith in you and your concept, but whatever it was, the landlord decided to contribute the equivalent of 3 months rent ($7,500) to the renovation plus grant you 2 months free rent to get the space ready to open.  All together, the landlord is contributing $12,500 to getting your business open.  This is a HUGE deal for you since the plumber has informed you that the City Building Department has notified him that you need to install handicapped accessible washrooms which will increase his estimate by approximately $2,500.  The cabinets are also going to cost you more than expected mostly because you have decided to install marble countertops to match the table tops which came with the tables you bought from the failed business liquidation.  All together you will be spending $60,000 to renovate your awesome space, including electrical, plumbing, refinished hardwood floors, new cabinets and counters, framed in handicapped washrooms, storage room, drywall, paint, a prominent outdoor lighted sign, plumbing and electrical fixtures.  One of the biggest hassles proves to be the permits required, but the process of producing architectural drawings by a professional firm proves to be a great investment, easing the permit process by providing all of the documents and drawings required by the City Building Department. 
Lets now make an entry to reflect the new expenditures.



The Balance Sheet has changed resulting from the money spent on renovations and the landlord's contribution to the expenses.  In order to reflect these changes on the ASSETS side we have reduced the Cash by $52,500 and created a new line called "Fixed Assets" which contains all items which are considered "fixed or attached" to the building, like cabinets, toilets and sinks.  The other $7,500 needed to make up the $60,000 comes from the "Landlord's offer to pay for some expenses" as an inducement for you to sign a lease.
On the LIABILITIES side we have created a new line called "Landlord Contribution" totalling $7,500.  Both sides total $107,500 and of course are BALANCED.


The building process is now almost complete and you are creating a lot of buzz in the neighbourhood after placing a sign in the papered up windows proudly declaring "Coming Soon...My Awesome Espresso Bar".  It is time to start assembling the goods you need in order to open.  These include, milk supplies, coffee and tea supplies, cups and lids, take away bags and trays, and find a dessert supplier.
You've been in the coffee business for several years and have selected a local roaster who happens to employ one of your best buddies.  They have a great reputation and have even offered to work with you to create an espresso blend just for you!  Since you are new to business, and the roaster has been around a while and seen companies come and go, they ask you to pay for your first order BEFORE they ship.  These terms are similar to every other supplier except the cool local baking company who offers you terms of Net 7 Days. (The bill must be paid within 7 days of invoice).
You've thought of everything needed and place orders with all of your suppliers totalling $5,000 PLUS a baked goods order of $100 for the first day.
Let's make an entry to reflect these changes.



Notice what we've done.  We reduced the Cash balance by 5,000 but create a new line called "Inventory", and simply converted Cash into Inventory.  Inventory are things the business sells to make money.  In inventory we also add $100 which represents the baked goods that we have but don't need to pay for until 7 days have passed.  On the Liability side, everything remains the same EXCEPT we have created a new line called "Accounts Payable" where we record the $100 that you need to pay to the local baker in a week.  This is a subtle but important point:  Notice how the totals have increased by $100.  This represents the value of the baked goods and it increases the Balance Sheet Total but doesn't really make the business wealthier.  Don't confuse a big number in the Balance Sheet Total with a Valuable Company.  The increase simply means that the baker contributed to the value of the baked goods (Assets) that company can use to make money, but the other side of the Balance Sheet (Liabilities) clearly shows that the company owes that money to the baker as an Account Payable. 

You have done your planning, saved your pennies, borrowed a great deal of money, and with it, made your dream a reality.  The contractors finished on time (due mostly to a great deal of pushing and prodding from you), and tomorrow you are ready to open the doors!  You haven't hired any staff yet because you want to save as much money as possible and think the demand may take a few weeks, even months to grow.  While your cafe can comfortably seat 20, you expect to slowly fill those seats.  Offering very simple baked goods will help you to keep service requirements minimal, so you can focus on preparing the best coffee in town.  Early on you expect to do about 100 transactions per day, which is no problems since that is about half of what your previous employer's shop did in a morning.  Working alone doesn't worry you either, sure the restroom breaks might be a little challenging, but your buddies said they would stop by and give you a break, free of charge, just to get you on your feet.
Your cash register is nothing more than your 2 year old ipad with Square Register loaded on it, a simple cash box made from an old fishing tackle box, and a data plan for your ipad so you can process transactions.  You are ready!  Tomorrow you open for business, so the priority is to get a good nights sleep and arrive like you always do...early for your shift.