WHAT ARE THE COSTS INSIDE AN ESPRESSO CUP?

As I have always dealt with numbers, and as it is very easy for me to understand the main steps into pricing something because of my professional background, I have decided to do a post to show the main costs involved in making a cup of an espresso shot being served to your table in a specialty coffee shop here in Barcelona.
This exercise we are doing here is to show how complex the chain itself of specialty coffee is, so it can deliver so much value to the consumer, and even more to the place that is allowing itself to have such a special product (as the name already says) in its shop.
Contrary to what many people think – you will be able to perceive here that the specialty coffee market does not work with high margins. And most of the costs inside the espresso cup are hard to change such as rent, labor, and other fixed costs. The raw material, or the roasted beans, do figure as the biggest cost, although is not the percentage people use to think it represents.
I wanted this article to be as accurate as possible, so I had help from a cafeteria and roaster owner from Barcelona to get the numbers.  This is a very realistic number for SPAIN in general, but also very easy to replicate in other countries’ realities.
The main goal of this article is to show the reader and the coffee lover about the costs breakdown of an espresso cup, showing that the problem of the price, as complained by regular quality coffee consumers about specialty coffee does not rely that much on the price of the green bean itself nor on the coffee shop owner´s profit margin, but it relies on the usually low volume of sales that this niched market still has in Spain, and many other countries.

FIXED STORE COSTS

In this part we will estimate the fixed cost one will have in the business to keep it running, that will be: rent, labor, and maintenance. As it follows in the graph and in the tables (by labor we are estimating the owner of the place not receiving a fixed wage (but he/she can also be absent), and one full-time barista, as the cafeteria used for our study, works this way.
Rent and Labor are the most representative costs in a small business as fixed costs. The challenge of a business like that (not talking about social media now) is to find a place priced in a way that the location and transit of people can make it viable to be run, or in other words, that the rent does not strangulate the revenue. Nowadays with the huge flow of tourism and as Barcelona experiences a low unemployment rate and a recovering economy, land prices are sky rising and it has been tricky to find it. Another factor as well is that the municipality has been restricting licenses for places, so people with existing businesses are reselling those licenses for huge prices.
Labour is also another challenge for one who owes a business because a specialty coffee barista needs to have proper training, and although it is not a super complex job, it requires time to get to a good level, and sometimes miscommunication between owner and barista can lead it to high personal turnaround.
As for maintenance, we are considering costs such as accountant services, energy, gas and water supply, internet, general machinery maintenance or lease, and finally software licenses, website hosting, and marketing costs. These costs have a little variation, but in general, they remain average in a continuous movement cafeteria, and the variations are not that significant. Once a cafeteria goes to more a complex type of service, more fixed costs can appear, but in our real studied case, these are the ones shown here.
Having that been said, let’s go to the costs themselves in the following table:

VARIABLE COSTS

The variable cost is mainly coffee, milk,  and packing. We could, and strongly advise a more sustainable way, as a professional washer and ceramic mugs, but to be conservative, we are adding a quite high cost of packing in each dose because we know it is still very common around, and the fact that our cafeteria has also this kind of “grab and go sale”. In Barcelona, luckily there are some companies that do an amazing job in sustainability, some of them are awesome startups that allow you to get a reusable cup leaving a value as a safety deposit, and you can change this cup in a net of restaurants and cafeterias that are partners of this project. One of them is REVASO. Another awesome project is REUSABOL (this one offers food containers instead of cups in the same way as REVASO). And finally one of my favorites is HUSKEE CUP, which sells cups made of coffee husks, a design award winner for its astonishing look.

For the variable cost, it is important to pass through the most important ingredient of our shop. The specialty coffee. Let´s assume a SOUTH AMERICAN coffee, because it has, in general, a very bodied coffee, with sensorial notes of chocolate, nuts, honey, and brown sugar. This type of coffee is very friendly to new consumers of specialty coffee because it is not extremely complex and so it avoids sensorial shocks with too many different aromas from common knowledge. The bean leaves the producer in SOUTH AMERICA, for approximately 6,00 euros the kilo. In this very complex chain, we still have the processor, that benefits the coffee, that adds more than 20% to the price, the transporter being responsible for 15% more, and finally, the trader that deals with great volumes, adding a final 10% of the price. So a small specialty coffee roaster in BARCELONA, for example, would pay around 5,80 euros for a kilo of SOUTH AMERICAN Specialty Coffee to roast it. Finally, that roaster will benefit it, and add lots of value to the roasted bean. If a coffee shop bought roasted coffee, that would be the approximated price it would pay for the kilo (23,20 EURO).
Some might wonder: why does the price jump from 5,80 euros a kilogram to 23,20 EURO a kilogram? Is that because the roaster captures most of the income of the coffee chain? Yes, and no. We will be talking about the process of roasting itself in another article, to explain why the price has this abrupt increase from green to roasted. In a few words, it has to do with high investments made, losses throughout the process, and the high mark-up necessary to equilibrate the balance of a roastery because it does not have a high sales volume, and here we go back to the point mentioned at the beginning of the article about the “high” price of a specialty espresso cup: low sales volume of this market.
See the table below:

REVENUE ESTIMATE

The menu of a specialty coffee shop in Barcelona can have many variations, going from only espresso-based options to espresso and batch brew, and finally the more complete ones with espresso, batch brew, and filter methods. We will consider the complete menu, trying to use the real distribution of the sales mix. Here in Spain, the culture of coffee and milk is very strong, the so-called “cortado” and “café con Leche” are the sales champions in most cafeterias. Filter methods are the ones that have the least sales volume, mainly because of the consumption habits and the time it takes to brew and drink it. On a daily basis, people do not have too much time to enjoy a good filtered coffee, once they are usually commuting to work or having a quick lunch or snack.
The food here is an important key of specialty coffee places. On many occasions, it can mean the key to the business’s survival. Due to the points shown above in the article, it is very dangerous to rely only on coffee beverages sales, because the average expenditure will be very low in absolute terms. If a hypothetical cafeteria worked only with espressos sold at 1,60 Euros for example, it would have to sell an enormous quantity of it just to pay fixed costs – in our case around 300 to 400 shots a day, an almost impossible number to reach. So once you add food to the menu, you upsell your customer with the mix of these two items and the situation changes a lot.
The coffee shop we used to do this article has a loyal base of clients and is also located in a place with many companies around, which helps it to have a good flow during the day.
About food numbers, in order to simplify our estimations, we will consider it as a separate business unit, having the food portions a cost of 30% of the price sold (which is the average in this kind of shop), so we can have more focus on coffee matters.
We will consider that the cafeteria opens only on business days.
Here we can see the table that shows the distribution of daily sales of each product of the coffeeshop and after that, we projected it to a monthly basis.

After the breakdown of the variable costs of each item and the volume sold (extracted from real data from a cafeteria), we can project the total monthly revenue and with that, do the proportional percentage of each fixed cost in each product. So here follows the next table:

TAXES

As for taxes, we will follow the tax law in SPAIN based on the IVA.
IVA or Value Added Tax (VAT) is a very rational way to tax companies because it does not double tax the products, and with it, the power purchase of the population remains untouched. Spain has a special taxation regime for restaurants. Instead of 21% taxation, restaurants are reduced to 10% IVA.
After that, we have the income tax, which is the part of the income the company had that goes to the government. The percentage is 25% of the final line income.
The final average weight of taxes in our case goes around 14% to 15%. The table has it in a more detailed level, because it is not fixed and as you change variables such as cost of raw material, final operational result, the investment made in the period, etc.
Despite the reduction in the restaurant sector, we can see that taxes represent a significant part of the cost of the espresso and it is always certain, like “death and taxes”. If you consider a 1,60 Euro espresso, it will have almost 30 cents of its price composed of taxes.

INCOME

Finally, we talk about income to the shop owner. Here we can consider income as the money left to be reinvested in the business, as well as the owner’s monthly withdrawals because in our estimations of labor we are not putting the owner´s hours of labor and considering it in the end so it is more next to reality once money in small business have to come from the business itself in most situations, as the funding options are very scarce.
In our calculations, it is easy to notice that, after all the risks the entrepreneur has to deal with until he/she reaches this level of revenue and results, the percentage left is tight, very tight, and there is not much room for price rises or costs reductions. So the alternative is always to increase sales, the biggest challenge for specialty coffee, is to reach a bigger base of customers, migrating from commercial to specialty, as has been happening in the Craft Beer market as well.
As we saw in the aggregated table above, the final profit of the owner, if nothing unpredictable happens, is around 2.500,00 EURO. It is a very short margin once all risks are taken by the owner, to – at the end of the month – earn just a little bit more than a medium wage job in a company with much less risk. What we can see here is that many people do that of passion. After all, in the specific case of espresso, the profit margin is around 10% with this volume of sales.

GRAPHS AND SIMULATIONS

Here we can find the infographics of the breakdown of the costs inside a specialty coffee espresso cup, the image makes it easier to understand and visualize how much each category represents in the composition of the final price.

FINAL CONCLUSION

As a conclusion, in our estimation of a  specialty coffee shop business, we can see that the slightly higher price of the espresso shot, has nothing to do with the profit margins of the business, but it is higher because of the heavy participation of fixed costs. If this notably better product were more appreciated by a higher volume of people – the chart would change a lot, as the fixed costs of the shop would be diluted in much higher revenue, as shown in simulations in the previous chapter.
The big challenge in this market is again to improve the volume of sales by more awareness among consumers about the great quality and benefits of the products offered. So what you would suggest as a possible change to improve it?