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4.16 Industry Unit Labor Costs & Labor Compensation Analysis Questionnaire

What is the benefit of having Unit Labor costs & Labor Compensation analysis in a business plan for A Touch of Tuscany?

One of the most important expenses for a small business like A Touch of Tuscany is of course the cost of labor. The time and money spent by small business owners like Jack Gordon to find, hire and train a team of workers that will be able to get the job done, is one of the most significant business expenses for a business like A Touch of Tuscany The Unit Labor costs and Labor Compensation analysis gives the business owner and the reader of the business plan an excellent idea into what kind of expense structure they are facing in the Full Service Restaurant.

What are Unit Labor Costs and Labor Compensation Index as they pertain to Full Service Restaurant?

Unit Labor costs are the ratio of hourly compensation for labor in a particular industry like Full Service Restaurant compared to the productivity of labor for that industry. An increase in the hourly compensation costs tends to increase Unit Labor costs and increases in the output per hour (more productivity) tend to reduce them. Labor Productivity in turn is calculated by dividing an index of real output for an industry like Full Service Restaurant by an index of the combined hours worked for all persons, including employee, proprietors, and unpaid family workers.

The Labor Compensation Index is a measure of the change in the cost of labor in Full Service Restaurant, free from the influences of employment shifts among occupations and industries. The Labor Compensation Index includes changes in wages and salaries and employer costs for employee benefits. Thus the labor compensation index gives the full cost of employing labor for an industry like Full Service Restaurant.

How long should the Unit Labor Cost Index and the Labor Compensation index be analyzed in order to get an accurate picture for A Touch of Tuscany?

Our analysis of the Unit Labor Cost index and the Labor Compensation index covers 20 years worth of data. We feel that it is very important to cover at least two decades when studying this important industry metric since it gives a good idea of the rate of increase of both indices and what business owners like Jack Gordon in the Full Service Restaurant can expect when they go about looking to hire people and expand their operations.

Which metric more accurately reflects the productivity improvements for a Full Service Restaurant?

The Unit Labor Costs index is a more accurate measure of productivity since it is a ratio of compensation to productivity. What Unit Labor costs does is that it tries to determine how much of the work is done by workers within a certain amount of time and reflects that in the compensation being paid to them in the form of an index. It is very rare to see a steep curve upwards or downwards in Unit Labor costs for the simple reason that it would take a significant change in compensation or a significant change in productivity of labor to affect this index in a meaningful manner. While labor costs may move up relatively quickly, it is very rare for the productivity number to change much since the output of workers tends to remain fairly consistent until better technology or processes are found to change the way work is being done.

Which metric more accurately measures the true cost of hiring personnel for a small business like A Touch of Tuscany?

The Labor Compensation Index is the best measure to truly understand the nature of hiring costs in an industry like Full Service Restaurant. You will typically see the labor compensation index grow at a much steeper rate than the Unit Labor costs index. The reason again being that Labor Compensation for Full Service Restaurant is the index that reflects the pure hiring costs to a small business owner like Jack Gordon.

There may be a period during the 20 years over which the analysis is being conducted, where the Labor costs do not increase or even take a small dip downwards, but for the most part you will find this index increase constantly on a steady trajectory upwards. This of course has to do with the rate of inflation. The more things cost, the more your workers and staff have to pay to buy the goods and services they need, and that of course means that you in turn have to compensate them more to be able to be a competitive employer. It is only in times of a recession, when there are more workers competing for the same jobs and they are willing to take a hit to their income, that an employer has the ability to freeze wages.

Can you use the Labor Compensation Index to measure the future cost of labor for a business like A Touch of Tuscany?

Yes. That is the very purpose of a metric like the Labor Compensation index. A small business owner like Jack Gordon of A Touch of Tuscany can take a look at the Labor Compensation Index for the Full Service Restaurant and come up with an estimate of what the growth of the total compensation costs will be in the future. For example, if the Labor Compensation index for the Full Service Restaurant has been growing at an average annual rate of 5% you can expect that your total compensation expenses for your staff will grow at 5% or more. Thus if you have been paying folks a total of say $100,000 per year in compensation, you can expect that in the next year that cost will be around $105,000 or thereabouts.

Another important item to understand for small business owners like Jack Gordon of A Touch of Tuscany, is that if you are in an industry where the labor compensation cost is growing at a much steeper rate than other industries, you will also have to make sure that this is included in your pricing, product placement, and positioning. If you want to be the lowest cost provider of products or services to the market place, and you fail to accurately estimate the rising cost of compensation, you could very easily get in trouble since your profit margins will most probably be lower than your competition and a slight increase in labor costs could take you from profitability to loss.

Quick Links:

  1. Go to the Corresponding Template section for this industry.
  2. Go to the Corresponding Business Plan section for this industry.

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