Over the past year I have been puzzled by a number of restaurant owners who despite appearing to have good businesses, locked the doors and walked away. This wasn’t just viewing these restaurants from the outside, we had access to their financial information and I was left scratching my head. There are very few circumstances where a restaurant cannot be sold, refinanced or transferred to another owner so that some value is preserved from them. Instead, these owners closed the doors and killed most or all of the value they built.
Here are three cases where closing a restaurant and walking away was a mistake for the owners, with potential solutions for each case listed below.
In Case #1, an owner with over 35 years invested in three casual pub type restaurants closed up because he felt the rents were too high and he had $600,000 in combined debt. Not a crazy number! He feared the minimum wage going up and the specter of mandated health insurance which he really didn’t understand. He was behind two months on the rent in two places, owed vendors about $100,000 but his taxes were current. A manageable situation for sure. His restaurants did a combined $4.0 Million in sales giving him a nice income of about $300,000 a year.
Case #2 was a real mind blower. The owner of a 20+ year old family style pasta and pizza chain of 18 restaurants with clean financials, $38 Million in sales, current on rent, no apparent tax issues, texted its 300 employees and told them not to come to work the next day as he was closing the restaurants. He filed for a Chapter 7 Bankruptcy dissolution, which is typically used in cases where the debt exceeds ones ability to restructure. His total debt was only $760,000 – relatively low for that many restaurants. Landlords were stunned and employees devastated. Upon inspection we found an eerie scene with well-cleaned, tidy restaurants with neat storage and product on the shelves. Like one of those “end of the world” movies, the only thing missing was the people. We could have turned on the lights, started cooking and serving lunch.
Case #3 was a young man who spent a few years as a hedge fund analyst who decided it would be cool to own a restaurant. He opened up a casual Italian restaurant in a middle class, blue-collar town and it was successful for a few years doing sales of about $1.3 Million. Having had enough of the long days and stress, he sold the restaurant to his manager and provided him with seller financing. Within a few months, payments were spotty and vendors started to call him saying they weren’t getting paid. Eventually the buyer defaulted after a few months rent was missed and the original owner ended up having to take the place back as he was still on the lease. He negotiated a payment plan with the landlord to cover the missing rent and decided to get creative and change the concept into a contemporary fusion cuisine combining eclectic flavors from the Pacific Rim. He invested serious money, the place looked great, the food was awesome but he couldn’t manage to break $18,000 per week. He misread the market as his blue-collar customers were not interested in hipster urban food. He kept the place staffed for twice that volume burning labor dollars and ended up locking the doors owing about $100,000 in financing, vendors and landlord. His heart wasn’t in it and if you aren’t fully committed, you will never turn it around.
In each case, the owners lacked foresight and could have done a variety of things before committing business suicide. Make changes to menu, product, concept, labor costs or work something out with landlords.
If you see that you might be headed for a wall you can put on the brakes and steer in another direction. The goal is to be able to sell the business that you worked so hard to build and capture enough value to free yourself of debt, taxes and the stress of unwinding. In good situations you can even get a massive return if you plan your exit well.
In talking over these scenarios with friends and colleagues in the New England Culinary Group, we all agreed that with planning and thought that these operators could have handled it differently and actually had a happy ending. They left money on the table or worse – walked away with creditors and the taxman in hot pursuit.
Here are the possible solutions the owners could have tried instead of closing their restaurant:
Case #1 – could have sold each pub well known for $200,000 to $300,000 and covered his debt. He also had the opportunity to renegotiate his leases if they were too high for him to sustain as he was in those locations for over 30 years. He had the juice to do it. He also fell prey to misinformation that the sky was falling with minimum wages going up and not understanding that he had no requirement to give health insurance to all his staff (a myth). Now he is in his 60’s with no job, no prospects and filed personal bankruptcy. With some advice, patience and planning he could have avoided this.
Case #2 – was easy. If the owner had enough and wanted out, he could have sold the units at fire sale prices of $100,000 to $150,000 each. At that price he could have sold them to his managers. This would have given him $1.8 – $2.7 Million to pay off his debt and walk away with some cash. A real steal for a smart operator looking for mature, cheap leases and fully equipped restaurants. Regardless of the concept the buyer wanted to put in instead of the pasta pizza, they would get heavy infrastructure with hoods, exhaust, HVAC, walk-in boxes, power, bars, bathrooms. All of which would cost 10X as much from scratch. This guy blew it big time.
Case #3 – Not being a real “restaurant guy”, this owner missed the mark by building a restaurant concept that he thought was creative, without any consideration for what that neighborhood would support. The choices were to bring back the original successful concept or put the place on the market before he burned a bushel basket full of cash. Waiting too long to pull the trigger forced him to close. He now has buyers looking at the spot but a closed restaurant will not fetch the same amount as one that is open and operating. A savvy buyer will often wait out the seller until he can no longer hold on. Attractive deals can be made directly with the landlord, often by merely paying any back rent or some key money.
Not sure of a strategy for your restaurant? You can email me at dsederholt@sfscapital.com to discuss your options.
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