Posted by Bethany Warren on 14th May 2014

Why a Latte Costs $3.75. It's Business Time.

We've all heard or offered up the comments and complaint. I've heard it many times: "It's just coffee- why does it cost so much?"

Although many people think of those of us who run coffeeshops as highway robbers, making loads of cash charging an arm and a leg for a specialty beverage, or worse, are in the business of extorting innocent caffeine-hounds, I can tell you, $3.75 is nowhere near enough for "racket business" status.

If you're a coffeeshop customer, it helps to understand what's behind the cost (so as not to build undue resentment) and why we might fuss at you if you bring in outside food and drink (don't be that guy). As an owner or manager, it's very important to manage those costs, know what you're paying out for every drink and for your monthly expenses, and be sure you're making a profit so you can keep your doors open.

Here are some of the things that go into the price of an unflavored latte at a retail coffeeshop:

  • the cost of the product:
    • the espresso (you've paid for the growing, processing, transporting, storing, roasting, more transporting, and brewing. The pricing of coffee itself is a whole other ball 'o wax!)
    • the milk (the producer, delivery guy, and refrigeration all cost $$, besides the milk itself)
    • the cup, sleeve, and lid
    • other condiments the customer likes (sugar, cinnamon, etc)
  • the fixed costs: (everything that needs to be paid for in order to be physically open)
    • utilities (gas, water, electricity, internet)
    • rent
    • debt (there's probably a small business loan to pay down every month)
    • insurances
    • regular labor
  • the variable costs: (costs that change based on business, besides cost of goods sold)
    • marketing
    • credit card processing fees
    • any extra or non-regular labor costs (to staff an event, for example)

The fixed and variable costs alone, not including labor, can represent an easy $5,000 each month, depending on your rent and debt situation. Labor costs can vary dramatically, but let's say you pay for about 400 hours of labor per month, and we'll just average it out to a cost of $10/hour (which is around what you'll pay for minimum-wage in PA, including worker's comp, taxes, unemployment, etc), that's about $4,000/month for labor, on the low end. So not including the cost of the product, we've got to sell enough to cover at least $9,000 of these other costs per month.

Ok, stay with me here! Divide your monthly costs by days per month you're open. For example, my place is closed Sundays, so our month averages 26 days. If it costs $9,000 per month in labor and fixed costs to be open, it costs $346 per day to be open. (costs per month divided by days of business per month.)

So how much do you need to charge per drink to cover that? You've got to either project your sales if you're just starting out, or evaluate your sales if you're considering a price change- what can or do you reasonably sell in a day? Does your location see a high traffic volume? Or does your business ebb and flow, or trickle in? Do you serve 50 people a day or 300? I like to estimate lower on sales, and round up on costs, just to be realistic and safe. (And of course you'd have to spend more on marketing to get 300 than for 50.)

If I think I'll sell 150 items a day, taking into account that $346 per day of operating costs, each item needs to start out with $2.31 built in to the cost. (cost to operate per day divided by projected number of units sold per day)

I know, right? Every item starts at $2.31.

Add in the cost of the product itself, and you can see how $3.75 is maybe enough for that latte. Then consider regular electric drip coffee. Not many people are willing to pay much more than $2.00 or $2.50 for one of those. (When customers say to me, "you must be making a killing selling us fifty cents-worth of coffee at $2.00", I cringe!)

Say you want to pay your definitely skilled laborers more than minimum wage, or you'd like to increase your marketing budget, or pay yourself- increase those operating costs. Setting prices is complicated, and shouldn't be done on a "comparison"-only basis. Check out your competition, sure- but don't undercut at the expense of your business's success. Do that busy work of figuring out what each product actually costs you (how much did that pump of syrup in the latte cost, etc): it's absolutely worth it! I created a spreadsheet that I revisit every year that lays out the per-unit cost of everything we sell, figures in the labor, fixed costs, and everything, and helps me calculate pricing. That works for me- what works for you?

There are always ways to decrease operating costs, but be sure to avoid decreasing quality of product or experience in the process, or you'll see a subsequent decrease in sales, too! At my place we constantly re-evaluate how we can increase quality while decreasing cost. We've found ways to save on things like credit card processing, disposable goods costs, energy costs, waste reduction, etc. We upcycle too (jam jars make great cold drink vessels!) Since our walk-in volume is on the lower side of average (small town), we've got to be creative about cost control while still providing a quality place and product, and so do you!

Of course, the other way to reduce that big, per-unit operating cost number is to increase sales!

How do you control costs and still offer quality where you are? If you're a cafe customer, what would you suggest? I'm sure you have ideas!