Buying a Business (Restaurant or Otherwise)

pm me. I'll give you a few "unconventional" answers.

You can make great returns in small retail businesses, absolutely.

Restaurants in Europe are sold at 1x revenues and 3-4x CF. I never understood why. Business in the stock market are valued a lot more. Why do small retail businesses sell so cheap? Is it risk? Is it because they are very management-intensive (vs buying a stock where it is no management-intensive at all as a shareholder)?

After my 10-15 years in banking I wanto to buy restaurants and nightclubs with the money I make. That's definitely the businesses that I like. You meet people all the time, enjoy your time around while you control your business.

With restaurants you've got to take care because these small businesses have very bad accounting, they tell you whatever figures they want to give you and most of the time they are false, their real revenues and CF is lower and that's why you find so cheap multiples.

They cheat you because people frequently manage a lot of black money with those businesses (how can government check out how much you are selling every day in a restaurant?) so it is easy for the seller to tell you: yeah, our accounts say that we're selling 100 a year but actually it's 250, you know why...

So be careful with that.

Regarding leverage, not sure if you can do financial engineering with these small businesses. If possible you would make the best private equity deals ever with restaurants... Just calculate IRRs buying businesses at 3x CF with 50% leverage and releveraging every year....

After my 10-15 years in banking I wanto to buy restaurants and nightclubs with the money I make. That's definitely the businesses that I like. You meet people all the time, enjoy your time around while you control your business.

With restaurants you've got to take care because these small businesses have very bad accounting, they tell you whatever figures they want to give you and most of the time they are false, their real revenues and CF is lower and that's why you find so cheap multiples.

They cheat you because people frequently manage a lot of black money with those businesses (how can government check out how much you are selling every day in a restaurant?) so it is easy for the seller to tell you: yeah, our accounts say that we're selling 100 a year but actually it's 250, you know why...

So be careful with that.

Regarding leverage, not sure if you can do financial engineering with these small businesses. If possible you would make the best private equity deals ever with restaurants... Just calculate IRRs buying businesses at 3x CF with 50% leverage and releveraging every year....I am sure that they will ask you colaterals for loans, like stuf you own yourself and not your corporation, so a bit risky... but this makes sense, those loands are really risky for banks...who can tell how resilient is a restaurant revenue? you buy a restaurant, you reposition it from pizza to mexican or whatever new concept you create, no one likes it and comes there, and you've lost all your previous revenue, so really dificult for banks to give loans on an unpredictable business in my opinion, restaurants are not concession-oriented business or infratructures.

JackJM-

There's a part of me that might be happy if I went through some due diligence and found out that CF was $100k when they claimed is was $150K I'd still pay 2.5x proven cash flow and then hopefully if I own it I'd actually get closer to $150k per year.

That being said, its a cash business with incentives to be less than honest so there is every reason to be skeptical. I'll be the most anal auditor ever when my own money is on the line.

Also, I'm not looking to operate as a PE firm per per se. I'd just need to borrow because I dont have $350k cash. Also, I doubt I'd ever try to relever - I'd probably just pay myself and the loan on a conservative schedule and then once the loan is paid off have a nice annuity (hopefully for 20+ years).

Restaurants often keep 3 sets of books - one for the owner to know how much he actually makes, one for the IRS, and one in case he wants to sell at some point. I would use his IRS net income, and require very, very good justification for cash flows that exceed that. This will of course result in a conservative valuation (since IRS net income is probably the minimal of the 3) but be sure to request backup for anything in excess of that. Also, be very careful about trends as they are presented. There is probably a reason the place is being sold. Look around for any new developments/competition in the area, including things under construction that you may not know will be sports bars.

That being said, I do agree that there could be some money to be made in the business. Good luck!

lol wouldn't it be smart to ask for records all the way back to 2006 that way you can see how good the firm is in bubble conditions and possible accounting lies also how big employee turn over is and SS payments and who is an illegal alien etc

My starting point for due diligence would without a doubt be the previous 3 years tax forms. It would be tough for them to convince me that to pay anything above that amount (although I'm aware its a very real possibility).

I am becoming very interested in this. My buddy and I are going to meet this weekend and try to figure out how seriously we'd want to pursue this.

if it sounds too good to be true...

i would try finding a restaurant owner to speak to about this

restaurant industry is very difficult, competitive and management intensive, even probably as a non-management owner (you already mentioned auditing your own books!). your employees will steal from you and turnover is very high.

good luck however I would recommend not just doing diligence on the company itself but also talking to other people out there who have gone down this road as there is a risk this willl end up being more of a headache than a cash cow

I owned a restaurant that I bought at 1x revenues and 5x CF. Restaurants are a real pain in the ass, keep this in mind all the time. It's not like buying shares in the stock market and you get dividends from time to time. Really management-intensive and competitive. Our restaurant was the best one in the neighborhoud for years, then some folks built a palace close to ours with a much better restaurant. They opened and our CF went down by 70%, no joke. That was after crisis where CF itself already went down by 50%. And it was really management-intensive: ultra high employee turnover (if you lose a waiter, it's ok, you get another one but if you lose a key guy in the kitchen like the ones preparing desserts or meat or sauce, you are totally f*cked up and trust me, it happened all the time and suddenly we didn't have the only person who knew how to prepare the sauces in our menu and our restaurant was pretty sofisticated so finding someone else who would know how to prepare those sauces was not easy). Raw materials issues all the time (getting your car all the time to buy paté at high end stores at a loss because some random client ordered paté and you don't have it, and your normal supplier cannot supply it in 10 min at lunch time), interviewing people all the time, changing dishes all the time, dealing with groupons and restaurant deal websites that owe you 20k€ from the last 2 years, dealing with restaurant tickets that companies give to employees, and that it takes 3 years to get the money back because the companies providing those tickets are not serious... you've got to deal with clients that come and just spend each €10 so you're losing money and they stay there for 3 hours and you can't accomodate clients that would spend €70 instead... very difficult business... raw materials and employee management is a real pain in the ass in this business. This is why we closed our restaurant.

And DO NEVER have a manager. You have to be there EVERY SINGLE DAY. If you don't, employees will steal you and revenues will go down. If I was not at the restaurant and someone called at 10pm to come for dinner or someone showed up at 11pm, waiters just said "we are full" when there were empty tables. Too late for them. However, if I was there I would accomodate any one coming til 12pm, and every group you accomodate is an additional €500 revenue and €400 profit because raw materials costs is low and at the end of day, salaries are a fixed cost that you already covered with previous clients. And again, be extremely careful with managers and waiters, THEY WILL STEAL YOU MONEY EVERY DAY YOU ARE NOT THERE. You've got to be checking every single table bill. My restaurant had a sophisticated software from Accenture to manage orders, stocks, tables, bills and accounting. Every employee had to go through that software to send orders to the kitchen or bill any table. And still, employees found ways to cheat and to steal my money using the software and other "techniques" to avoid me finding out.

The problem with restaurants is that you can only have one. You can't build a restaurant empire. If you own 20 restaurants. 1 will work (the one where you are everyday), the other 19 will have losses because employees will steal, will treat clients like shit and won't go the extra mile to generate additional revenues.

Agree 100% with above poster i worked in a restaurant/catering business in HS and i could not imagine ever wanting to own one. 1. Managers work absolute shit hours and have to be there super late on weekends. 2. So many employees don't care its laughable. Restaurant service jobs are dime a dozen and the workers know this and give little effort or simply don't show up. 3. Might be the most competitive industry there is. 4.With this said working in a restaurant was a lot of fun. Most of us drank on the job and then went out and partied afterwords. If you have ever seen the movie "Waiting" it is very very similar.

a sport bar would be a bit better than a full-service place though right? I mean, I'd assume the food/beverage mix would be better and there would be less complexity with sauces and all

it might be fun, but I don't think trusting an acquaintance is that great of an idea unless you intend to be there every night (which will hurt your career). So unless you have a brother in food service or something...

I don't like the classic sports bar business model. You only get clients for special events. Clients stay long time and spend little money (coke and chips). I prefer classic models like low cost restaurant with high client rotation or luxury restaurant with little client rotation. Both are fine. My long term goal after banking is to own one single ultra luxury restaurant. I know that owning 20 places is not feasible unless you franchise them or design co-ownership structures to give real incentives to your managers (who will anyway steal money, but charge them at least a fixed royalty fee).

If I had to own a restaurant now this would be in a touristic place (less sensitive to economic downturn) and it would be something expensive but not in the high end luxury segment, somewhere in the middle between "Dorsia" and McDonalds but closer to Dorsia.

Have you also considered all the working capital requirements? It's not as simple as you pay 300k and you get the restaurant. Keep it in mind that you'll have to put in advance salaries and all the relevant costs during your first months, until your place becomes profitable. The good thing about restaurants is that, if they are profitable, working capital gets killed because it is a business where you get paid by clients instantly and you pay your suppliers many months later, and salaries get paid one month later. But at the beginning, especially if you are running a new concept, your place needs time to get known and you'll have to resist putting in working capital, it's not only about the acquisition price. Not to say if you start investing in capex to renew the place to reposition it from thai to indian or whatever you want to do with it.

Given that you buy restaurants at so low multiples, bear in mind that if you are putting in 300k to buy and this is 1x revenues and 3x CF, you'll probably need like 100k at least in working capital if your place is profitable from day 1, and even more if you want to resist a few months before you make money.

Another advantage of having a restaurant focused to "mid to high" segment is that you can "leverage" your place into new operations once it works to make additional revenues. This is something you can't do for instance with a cheap McDonalds. Just a few ideas with things I did with my place: - catering service for business centers: very profitable, once your restaurant is working and profitable, getting your cooks to cook delivery stuff for companies (like bankers doing allnighters) means no extra cost (except raw materials) and revenues you make from become CF at 80-90% rate - transition the restaurant to a night club from midnight to 3pm. You bring a dj, get a promoter, you sell drinks and make 90% CF conversion rate again on revenues. People having dinner start buying champagne bottles at midnight and that's 75% CF conversion

Just remember that once you cover for salaries, raw materials are a joke and you just add margin and margin for every additional piece of sh*t that you sell.

I agree with Cardinal on the restaurant owner life style. I really miss it. Was fun to meet and sit down with groups of people here and there having dinner at your place, you can then go party with them when you close your place. But remember the day after you'll wake up at 7 to interview dudes replacing the guy who was cooking bread or chocolate cakes at your place and who left, to buy gas, to negotiate wine prices with your suppliers, to negotiate food prices with your suppliers, to bring cash from the day before to the bank, to kick waiters ass so that everything is ready for lunch time, to print new menus, to discuss with dish designers your new beef with chardonay that will replace pork that you've been serving for 3 months, to pay 500€ additional per month to your sauce specialist because he threatened to leave (I hate cooks, they've got all the negotiating power in certain types of restaurants, waiters are commodities, cooks definitely not, if they ask you 5k€, you'll have to pay 5k).

The place I looked at was basically sport bar/grill with a small catering business. In all honesty I have no idea who would use their catering company. Its actually in the same complex that my buddies wife works. She said she doesn't think anyone ever goes there. That, a few negative reviews on Yelp and a red flag or two from the broker will be enough to keep me away from this particular place.

JackJM - your insight is awesome! I really appreciate the knowledge you've shared. The capital requirements you mentioned are definitely well above what I was thinking. I assumed it would mostly be payroll/rent in the first month and then food and utilities starting in month 2 (assuming I could delay payment to vendors). I probably wouldn't be extremely profitable in the first few months but I'd hope to be close to even cash flows.

The owner lifestyle would be awesome, but I plan on having it managed and I would only help with promotions and weekends. I know this would eat into my profits, but I'm not looking to leave my day job at this point.