Restaurant Business Purchase Valuation Trends

For Restaurant operators, this has been a difficult time to operate and make money. The credit crash, which began in August 2007, dried up access to capital, and the Great Recession is still underway, although in abated form. Both independent and chain restaurant sales in 2008-2010 experienced one of the largest sales declines in modern history. The bottom was reached in mid-2010 and sales have begun inching up, but not fully recovering to pre-recession levels.

Restaurant buyout activity and prices which reached extreme peaks in 2005-2007 similarly fell to earth, but have recently recovered. 2010 and 2011 have marked many high profile restaurant buyouts by private equity (PE) firms. Carl’s/Hardee’s and Burger King in 2010, and several others, such as Il Fornaio and California Pizza Kitchen, are now pending in 2011.

Private Equity firms might be looking: Since 2003, PE firms have invested in the restaurant space big-time, and their number of brands now exceeds publicly traded companies. Many PE firms have unused capital to invest, and must invest their funds within limited timeframes.

Investor rationale: restaurants are thought to be simple, easy to understand operations, that everyone needs, which should throw off recurring profits routinely, like a bond. The PE firm hopes to add value via operational improvements or adding scale, so that the business can be sold again in 4 to 6 years.

For those of you that operate small, multi-unit restaurant groups particularly in the businesses’ early lifecycle; this might be the time to sell all or a portion of the business.  Many PE firms have the money. And for some restaurants, it might be the only way to gain capital to expand; while the banks and PE funds have money, lending to smaller restaurant operators is as tight as ever, in the wake of the recession.

The price: There are several ways to value a business, but all are ultimately tracked as a purchase price multiple of your cash flow, that is earnings before interest, taxes, depreciation and amortization, or EBITDA.  For example, if the purchase price is $1,000,000 and the EBITDA is $250,000, the purchase multiple is 4 times.

While many business owners have a subjective price in mind, really the earnings or EBITDA multiple, is the best factor to contemplate. Independent single unit restaurants often sell as low as a 2-3 times multiple. Chain restaurants typically sell at a range of 3-12 times EBITDA, with most in the 5-8 times range. The recent June 2011 Arby’s buyout transaction was at the low end, 2.7 times, and Dunkin Brands in 2005 at the high end, 12.3 times.

For some early lifecycle restaurants, we have heard of multiples exceeding 10 times.  This might be for a promising company, or where the PE firm is trying to gain experience in that sector. But keep in mind the PE firm doesn’t want to overpay, it has an obligation to hit its return target to its investors.

The PE firms typically want: an economically viable multiple unit restaurant operation, with EBITDA $5-10M, ideally in multiple markets, although some will focus on promising early lifecycle restaurant groups with a minimum $1M in EBITDA. The concept should be expandable, scalable, proven to be viable in multiple sites and with customer differentiation, some point of competitive advantage that stands out.

Final advice: with either a new partner or a majority or minority owner, your life will definitely change. Your personal goals and objectives must mesh with the PE group. You’ll definitely need an independent advisor as well an attorney to help. This decision cannot be made on the cuff.

About John Gordon

John A. Gordon is a restaurant sector expert, who focuses on restaurant management, operations, and related earnings and economics matters. He consults with attorneys and other professionals who need to know about restaurants, via expert research, expert consultant and expert witness roles. Working for both plaintiffs and defendants, he has experience with both state and federal actions. He is an expert on chain restaurant business conditions and publicly traded companies. Gordon has extensive, career-long executive restaurant operations, corporate staff, financial management and management consulting experience, and is familiar with virtually all management issues and business disciplines. He has completed PSLRA securities, financial projections, due diligence reviews, earnings and damages, franchisee/franchisor matters, wage and hour and menu analysis expert work. Expert witness and article contributor for www.ForensisGroup.com

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