How to Get A Really Good Deal when Purchasing A Restaurant

The restaurant business is often very unpredictable, and if you’re looking for a clear indication of the current market situation, just check out the number of restaurants for sale at any given time. As the rate restaurants close their doors permanently can be so overwhelming, you should really find out the reasons for the sale, and then make up your mind whether you think you’ll be more successful than the previous owner.

One of the first things that you need to consider when mulling over the paperwork is the lease arrangement. Location is everything when it comes to a restaurant and very often its proximity to a pool of potential and repeat clients can be key. In this day and age landlords are searching for security, and in most instances they’ll question the credibility of a potential new owner intensively. Communication with the landlord should happen early on in your due diligence process, to make sure that there are alternatives available in case something unforeseen arises.

Setting an accurate value on a restaurant can be quite difficult. Basically, there are two methods that can be used: cash flow multiple or asset-based. If the business you’re thinking about purchasing has been inactive, or you’re just buying the equipment, then it’s quite reasonable to utilize the asset-based method where you just set a value to the assets, and then that’s the figure you pay. If, however, the business is ongoing you can get a good idea of its value by calculating a multiple of the owners benefit. Ordinarily, the benefit can be calculated by adding any owner salary or other benefits to depreciation and interest expenses, combined with the business net income. Self-service restaurants can specify two times the owner benefit for consideration, while full service restaurants can specify two to three times this figure.

Remember that the hours a restaurant is open have a significant impact on the owner benefit figure. Carefully consider the incredible number of work hours involved, and then compare this to the benefit figures to make up your mind on whether the deal is actually worth your while. Some analysts use a rather general rule of thumb depending on the number of meals and/or the number of days the restaurant is open each week. If the restaurant is open five days a week, specify 70% of gross annual revenue; six days a week: 60%; seven days a week: 50%.

You may find it difficult trying to value revenues as the industry is notorious for not reporting income. Sellers will expect to be paid for the total profit, but often cannot prove it. The devil’s advocate might say that if they have been “cheating” and benefiting tax wise, they should not expect to reap the benefits a second time during the sale process. It may be possible to re-create the financial picture, but you should ask yourself whether you’re willing to believe the final outcome of this exercise, whether the process is realistic and whether you want to go through with it, anyway.

The two major costs in a restaurant operation are food and labor. While costs will vary greatly depending on the type of restaurant and whether liquor sales are involved, as a general rule of thumb the combined total of labor, rent and food costs should not exceed 65% of total revenue. Pay close attention to this rule as you do not want to operate in the red.

Many believe the typical breakdown of costs should be as follows:

Food Costs: 30 to 33%

Labor: 20 to 25%

Rent: 6 to 10%

Again, you should not exceed approximately 65% when combining these items.

The exercise of due diligence is important whenever you buy a business and is especially true when you are considering a restaurant. This critical stage can lead to a review of 125 separate items and you should maintain a critical checklist as you proceed.

When reviewing equipment, bring in an expert. A nearby restaurant supply store can provide you with names to choose from and remember that there is a very large market for used equipment so you should be able to replace any faulty products at reasonable cost.

When you are checking out the reputation of a business, turn to public records to see if the business has performed to health department regulations. You should also include a “representations and warranties” section within the purchase agreement, to document that there were no previous health violations resulting in a fine, closure and so on. Health concerns are paramount when it comes to your restaurant’s reputation and there’s no faster way to put yourself on the street than by enduring a public report in the paper that the establishment has serious bug problems or is not complying with regulations.

You should educate yourself well when it comes to buying a restaurant, especially if the business is new to you. Don’t become one of those negative statistics and make sure that you buy well and build a successful restaurant in this highly competitive environment.

Richard Parker is the President and founder of the prestigious Diomo Corporation – The Business Buyer Resource Center. His celebrated materials, seminars and consulting have encouraged thousands of aspiring business buyers from around the World to pursue their dream of buying a business.

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