Two Meaningful Restaurant Real Estate Metrics
Ask five restaurateurs what the most important factor is in a successful restaurant and you’ll likely get five different answers. Food, value, atmosphere, location and service are always top of mind. But Jim Haslem, a real estate advisor at Huntley, Mullaney, Spargo & Sullivan, says none of those are important as the lease. He said if rent costs are a little too high, a business has a much higher chance of failure.
There are many metrics and guidelines for measuring a lease’s affordability, but Haslem notes two that are especially useful. One is a top-line metric and another a bottom-line one.
The top-line metric is rent as a cost of sales. This determines basic rent efficiency and is a commonly used metric to measure real estate performance.
To find the rent efficiency, simply divide the yearly rent by the projected sales.
For a restaurant generating $800,000 each year in sales, and paying $4,000 per month in rent ($48,000 per year) that means a rent efficiency of 6%, a very attractive percentage for the restaurant industry.
“There’s a range there, if you’re at 6% that’s generally a very healthy percentage, if you’re below 8%, you’re probably OK, once you get 8% to 10%, you’re giving a significantly higher percentage of your sales to the landlord. And if you’re over 10%, it’s something that you’ll have to negotiate,” said Haslem. “Over 12%, 14%, 15%, it quickly strips the profitability out of the restaurant and you’re in trouble.”
The bottom-line metric is another valuable metric, one that determines the landlord’s share of restaurant profits. To find this, put base rent (and any percentage rent) in the numerator and the EBITDAR (EBITDA + Rent) into the denominator.
That hypothetical restaurant is doing pretty well, and pulling in a 20% EBITDA margin overall, making a profit of $160,000 each year for an EBITDAR of $208,000. Thus, the profit going to the landlord is 23.07% of all EBITDA.
Now, if the restaurant suddenly loses some sales and that contractual rent bump goes into effect, the profits can change fast and drastically. If rent went up to $5,000 and EBITDA margin came down to 15%, all of a sudden, the landlord is taking one third (33.33%) of the restaurant profit.
“I love this metric,” said Haslem. “You’ll find many, many restaurants are shocked when they’re paying more than 50% of their profit to the landlord. What that means is they’re in business to pay rent to the landlord. They’re shocked. “
Both metrics, Haslem said, can be used to negotiate with a landlord when the lease gets out of line. He suggests actively measuring all company locations regularly and negotiating early and often when one location isn’t performing well. With these real estate metrics, business owners can cut through normal skepticism.
“You’ve got to work through the barriers or skepticism and get back to a fact-based negotiation,” said Haslem, but as soon as a problem arises, address it. “Waiting is not a smart strategy, time is not your friend. And realize that negotiation may take weeks or months.”