Getting a Lease that Fits Your Vision
Perhaps you can envision it – your restaurant on a busy, well-trafficked street corner that matches every criterion for a winning business. All it needs is your signature on the lease. In a hurry, you begin drafting an offer on the site. Surely nothing could go wrong.
As a group, full-service independent sit-down businesses don't get the attention their fast-casual or QSR counterparts do. But together, they comprise a $160-billion segment of the overall industry. The most successful among them are household names, such as New York's Nobu and D.C.'s Old Ebbitt Grill. Sometimes, these are attached to even bigger household names – Robert DeNiro or the presidents of the United States, respectively.
The tantalizing dream this suggests is restaurants have the potential for massive gains from minimal upfront investments. However, grim reality isn't aglow with this bright, optimistic view.
One in four independent restaurants will close or change hands in the first year of operation.1 In the second year, it's almost half; in the third, roughly 60 percent. Investors are familiar with the reasons for this: not enough capital or experience, or too much competition.
Perhaps you've taken every precaution, approaching negotiations with deep pockets, competitive insight, and the passion for business management can help you succeed where others have failed. Of course, you've also prepared an exit strategy.
Whether you hire management to run this business, fold it into one you already operate, or plan to run it yourself, you chance at least two things: the management's ability to generate an income stream and your ultimate ability to sell the business for a capital gain. Before making an offer, you'll need to research and identify anything that could weaken that income stream or the resale value of the business.
Lease Concerns
Restaurants aren't good investments for the careless. "[Restaurants] are notorious for having legal problems that crop up weeks or months after the sale closes," advises John Corcoran, a lawyer and popular consultant to entrepreneurs. Indeed, as the sportswriter-turned-restaurateur Bruce Buschel2 comments in his New York Times chronicle of business failure, little about the restaurant market is as it seems.
"Crowded places are not necessarily flourishing," Buschel writes. "Bankrupt places were not necessarily poorly run. Variables are wild: rents, location, capitalization, management, reviews, public relations, social media, timing and luck, if you believe in that sort of thing."
. In this series of posts for would-be buyers, we'll shine a flashlight into some dim corners, highlighting small independent restaurants and the deals where they change hands. We hope to give you the confidence needed to face the inevitable difficulties that come with securing a new restaurant.
Deciding on a Lease
The lease for the property your restaurant occupies is incredibly important. Luckily, everything about it is negotiable. You may be surprised to learn just how much control you can exercise over its terms.3 The permutations of these terms are practically infinite, so we're going to focus on the most important facet.
Transferable Leases
This might seem obvious but there are many ways in which a lease might not be transferable – not only to the buyer, but from you to another buyer. It could be a month or two from expiration. It could limit the ultimate pool of qualified buyers for your business. It could require all signage be in the name of the original tenant, or include a lien on the seller's property, restrictions on the use of the space, no parking – the list goes on. Being unable to transfer the lease almost inevitably becomes a problem and certainly will be your problem if you try to sell the business. It's a problem for you to solve, and the time to do so is before signing the lease agreement.
As counterintuitive as this may seem, it's not the seller's responsibility to ensure the lease permits assignment to a buyer. If a seller has failed to secure the assignment of the lease, the landlord can't give a buyer the benefit of it. Nor is the landlord required to put an assignment or transfer clause in the lease. It's even possible there could be language in the lease that lets the landlord restrict your rights, even end your lease, if you so much as ask to reassign it.
Let's say the sale goes through and it's discovered afterwards the lease didn't legally transfer. What happens then? The new owner might have to renegotiate a new lease on much worse terms, like triple the rent or some other dealbreaker. Worse still, they might have to leave the property, and there goes the business.
Careful buyers often negotiate for a provision in the contract that makes closing contingent on their getting the lease assigned to them or getting a new lease in a place they find acceptable, with the landlord's written approval. Careful buyers should also ensure the lease specifies exactly how it transfers to another party and whether, having assigned the lease, they remain liable for the rent.
Tenants would ideally assign the lease without needing the landlord's consent and be totally free of additional liability having assigned it, but this often isn't feasible. Many brokers and attorneys suggest negotiating instead for a lesser set of options, like defined reasonableness on the part of the landlord in deciding for or against assignment, for example.
Restaurant Leasing Tips
- Enlist professional help from a restaurant buyer's broker and commercial real-estate attorney specializing in restaurants.
- Allot time to review and negotiate your lease – including time built in to ensure you can review the terms of your lease later.
- Be prepared to walk away. After all, many new restaurant opportunities are almost guaranteed to appear.
References
- Restaurant Failure Rates Recounted: Where Do They Get Those Numbers. RestaurantOwner.com. Accessed December 2021.
- Bruce Buschel Author Profile. The New York Times. Accessed December 2021.
- Eight Hidden Dangers in Restaurant Lease Agreements. The Restaurant Coach. Accessed December 2021.