Inflation is in the headlines daily as prices in the United State continue to rise on everything from basics at the grocery store to the stunning surge at the gas pump. What is inflation? Put simply, it’s the rate of increase in prices over a given period of time. With the rampant rise in 2022, it is affecting every household in America along with the hospitality industry. What does inflation mean for you in buying a restaurant? Here are five tips to help you reconcile what is happening in the macro-economic climate with your own desire for owning a business.
Tip # 1 – Look at Most Recent Trending
Buying a restaurant has generally been based on the “look back” at the prior year’s operation. It is also the basis for lending. However, when inflation is placing upward pressure on pricing, those buying a restaurant should also critically examine the current trend. That means that instead of focusing your due diligence time on what happened three or four years ago, you should be looking carefully at the current sales and earnings based on today’s economic model. You can also review this article for the best five tips for due diligence when buying a restaurant.
Most borrowers should take the same approach as the lending community with barely a look at 2020 due to the impact of the virus. Instead, lenders are looking at both 2019 and 2021 along with the current year. Those buying a restaurant should take their cues from those lending money and focus on 2019, 2021 and 2022 trending in relation to the sales and earnings lines.
Overall, forget the long look back on performance. Ask for a trailing 12 months (meaning the latest 12 months of data) by quarter or by month if it is available to understand the current impact of inflation on the business you are purchasing.
Tip #2 – Understand Pricing Adjustments
Since inflation places upward pressure on prices, it’s important to know whether the current owner has implemented the latest menu price increases. Those buying a restaurant should gauge how any changes affected both sales and earnings. You also want to understand the increase already introduced to the customers. If a seller took only a 2.5% across the board increase to the menu, there may be room to further adjust as inflationary pressure continues. If he took a 15% increase, you risk alienating customers or pricing them out of the marketplace with a further adjustment when you acquire the business.
You also want to analyze food costs when buying a restaurant as this is typically one of your largest expenses. How has the business been impacted by price increases? Is the business part of a franchise with significant buying power that keeps pricing under control or are you acquiring an independent operator bargaining on his own?
You also want to understand whether there have been menu changes or adjustments. If not, this could signal a significant opportunity when buying a restaurant. Analyze every item on the menu, along with its contribution to profit and relative costs. You may find that the signature dish is actually never ordered and contributes to the most waste and highest costs. Dig into the details as the food cost or cost of goods sold plays a significant role in the profitability of the restaurant.
Tip #3 – Assume it will cost much more to build
As you are weighing the benefits of buying a restaurant, remember that today’s existing restaurant is available at a stated price point with definite earnings. If you decide to abandon the idea of buying a restaurant in favor or building your own, be sure and weigh the costs and delay in launching. Construction costs have been heavily impacted by inflation and wait time for equipment and contractors may leave you in the red before you even open. For more information on whether to build or buy a restaurant, read this article on the pros and cons of both scenarios.
Tip #4 – Understand that historically, what goes up, will come down
While today’s prices may seem as if they are moving in only one direction, the United States has seen experienced high periods before. Ultimately, the market will resolve the issue through a tightening of the money supply and an increase in interest rates. Buying a restaurant today based on current trends may be the ultimate shield against paying more for the same business in the future when you factor in the higher cost of money or interest rates and continued increases in the price of restaurants for sale.
Tip #5 – Move now before interest rates increase your debt service
The biggest tool in the U.S. government’s arsenal to push inflation down is the tightening of credit. This is achieved through higher interest rates. Expect the interest rates to rise. With that in mind, those buying a restaurant may be better served to lock in a rate now before higher rates affect the debt service on any lending.
Overall, inflation is not a deal killer for those buying a restaurant. Although restaurant prices are predicted to continue to rise, there are still opportunities for interested buyers. The best time to buy a restaurant is when the market is trending up and before interest rates increase. If you're ready to take the plunge into the restaurant industry, our team can help you find your perfect establishment. Contact us today for more information about restaurants for sale – we would be happy to assist you!
If you have questions about buying a restaurant during inflationary times, contact one of the Certified Restaurant Brokers at We Sell Restaurants. For information on restaurants for sale, visit this link or wesellrestaurants.com.
Robin Gagnon, Certified Restaurant Broker®, MBA, CBI, CFE is the co-founder of We Sell Restaurants and industry expert in restaurant sales and valuation. Named by Nation’s Restaurant News as one of the “Most Influential Suppliers and Vendors” to the restaurant industry, her articles and expertise appear nationwide in QSR Magazine, Franchising World, Forbes, Yahoo Finance, and BizBuySell. She is the co-author of Appetite for Acquisition, an award-winning book on buying restaurants.