Buying a restaurant is a major investment. In many ways, it is more complicated than opening a new one. New restaurants face specific disadvantages: no established clientele, no reputation, no staff. Buying an established business, however, comes with a host of challenges and practical pitfalls to (hopefully) avoid.
Past success may be a broad indication of future prosperity, but a more detailed evaluation of an existing restaurant is essential before signing on the dotted line.
Why Is the Owner Selling?
No other question is quite as important as this one. A business owner sells for a reason. It is imperative to find out why.
Since the answer to this question may negatively impact the sale price of the business, the restaurant owner may be reluctant to be fully open with you. It is important then to look beyond the reasons stated by the owner. Conducting due diligence at the outset will likely save you a great deal of trouble later on.
The following questions should be carefully considered:
- Is their stiff competition nearby?
- Is the neighborhood changing (businesses closing, people moving away, etc.)?
- Are crime rates rising?
- Has the restaurant’s reputation suffered in recent years?
Answers to questions like these may not sway you away from acquiring a restaurant, but they will give you a realistic view of what you will face if you choose to buy.
Buying a restaurant means obtaining the restaurant’s assets. Knowing the condition of those assets is critical to determining whether or not the investment is worthwhile.
Assessing a restaurant’s cash flow is absolutely crucial. To do so, you must review the restaurant’s financial statements in order to calculate the actual income rather than the owner’s personal estimation. When determining cash flow, don’t forget to calculate depreciation and amortization of any restaurant property.
A thorough assessment of the restaurant’s equipment is necessary. If you are unfamiliar with restaurant facilities, bring someone with you who is knowledgeable about how such equipment functions.
Less obvious are other assets such as business licenses, insurance policies, vendor and contractor contracts, and the restaurant’s intellectual property assets (trademarks, logos, copyrights, etc.).
If you are purchasing a restaurant that serves alcohol, the liquor license is particularly important. You will need to determine if the license is transferable and included in the sale.
Purchasing a restaurant means not only acquiring its assets, but also its liabilities. The most obvious liabilities are the company’s debts and obligations, which should be clear from reviewing the financial records: balance sheets, accounts payable, mortgages, loans, etc.
Businesses accrue tax liabilities, and thus a review of the restaurant’s tax history is essential. A full audit of the company’s tax records will provide a robust understanding of the restaurant’s financial health.
While not strictly financial liabilities, there are other legal issues you will be liable for if you purchase the restaurant:
- Labor code violations
- Health code violations
- Lawsuits (such as sexual harassment)
These liabilities will follow the business, not necessarily the previous owner.
The terms and conditions of the restaurant’s lease must also be evaluated. You should contact the property owner and discuss how the lease will transfer once ownership shifts to you.
Restaurants, like any business, live and die with their employees. A successful ownership transition is unlikely without a thorough knowledge of how the current staff functions on a daily basis.
Evaluating the restaurant staff goes beyond identifying worker skill and competency. Employee training procedures, staff schedules, payroll and how tips are handled should all be examined. You will likely have changes you intend to make. Implementing them will be easier if you clearly understand how the business operates already.
Restaurants are rarely free from employee issues. Lawsuits, L&I claims, union disputes and other concerns can be difficult to manage. It is best to know about these issues upfront, as they will almost certainly become your responsibility.
If your favorite novelist switches publishing houses, do you limit your reading to books from their previous publisher? Of course not. You follow the author.
Restaurants are no different. Charismatic owners breed loyal customers who will likely flock to the owner’s newest dining establishment. The last thing you need is half your clientele abandoning you shortly after the ownership changes hands.
A non-compete agreement shouldn’t be a deal-breaker, but it is worth asking if the current owner will sign one. If they are truly leaving the industry, it shouldn’t be a problem. If they are staying, you may have learned some valuable information about your future competition.
There are many factors to consider when purchasing a restaurant, far more than this article can cover. Getting the clearest picture of any potential sale depends upon your own due diligence. Asking the right questions and knowing where to look for the answers will go a long way in helping you determine whether or not you are making a sound investment.