last updated 08/12/2019
Funding For Food
last updated 08/12/2019
Dean Madsen from Westpac provides insights into hospitality trends and funding options
With some of the best-known brands in the world being food franchises, it’s no wonder prospective franchisees have always been keen to invest in winning concepts. The fast food sector in particular has been very positive over the last five years, with an average growth rate of 6.1% per annum.
However, the hospitality sector is undergoing a period of substantial change, with a number of trends that are causing disruption and impacting on the profitability of certain business models. These include:
• The convenience of having food delivered to your front door. This is expected to further fuel growth in the sector driven through digital technology with the use of apps and websites. Whilst an incremental increase in sales from new customers can have a positive impact, we are seeing some businesses where the increased level of higher cost delivery sales has replaced existing higher margin dine-in or pick-up sales. This can reduce the overall profitability of the model.
• Veganism is becoming more popular as consumers consider health, impact of climate change and animal welfare. The ‘where to eat’ decision will most likely be determined by the vegan within a group and will therefore ultimately influence whether or not they will eat at your restaurant or elsewhere. Earlier this year, McDonald’s Germany launched a new vegan burger, while several franchises in New Zealand are already offering plant-based meat alternatives.
• As New Zealand’s population base becomes more multicultural, so ethnic foods have become more available and more mainstream. The rise of Mexican food operators is one such example; other popular new concepts include Papa Rich (traditional Malaysian meals) and Hachi Hachi (Japanese). As they introduce new flavours for consumers to try, there will be a spill over into other food businesses.
• Automation is set to grow, with self-service kiosks, pizza-scanning technology and machines to cook and flip burgers. As the cost of technology reduces, it will enable businesses to reduce labour costs or re-allocate duties within a business.
All these factors mean that when you are considering buying a food franchise, you need to look carefully at the brand’s track record of adapting to market changes. From a financial point of view, you also need to ensure that you don’t over-pay for an existing business opportunity, and that you have the right types of funding in place to enable you to respond to trends and opportunities as required.
Buying an existing business
When purchasing an existing franchise business, it’s helpful if you can get at least three years’ historic results to enable you to identify any potential trends in the business performance.
It’s also important to do due diligence to ensure that the numbers are what they seem. This is where buying a franchise can be a huge benefit, because there should be benchmark figures available for comparison of what other franchisees are achieving.
For example, if the business you are considering has wage costs much lower than the benchmark, check what is being paid to staff and the hours rostered to ensure they match up. You may find that the owners have been working extremely long hours but not paying themselves a wage, and as a result the actual profitability of the business could be lower than it appears.
This is an area where input from a franchise-experienced accountant who knows the brand concerned and knows what to look for can be invaluable.
The current climate
Your food franchise will generally be funded using a mixture of equity and debt. Your equity contribution can come from your own savings, raising finance against personal assets (ie. your home or investment property) and/or selling assets to assist with the purchase. It is important to ensure you have sufficient equity and understand the full cost of finance on the business.
The current low interest rate environment makes purchasing a business more affordable. As a borrower, it’s a good time to take advantage of this; however, you should factor in the risk of future interest rate increases and what impact this could have on the cash flow of your business. Interest rate risk is generally the highest when your debt levels are at their highest: for most businesses, this will be in the first couple of years of operation.
Be aware, also, that the low interest rates mean astute vendors are aware that purchasers are able to repay debt quicker, and therefore returns to purchasers are potentially higher. Vendors are therefore looking to sell their businesses for a higher multiple of earnings: it’s up to you and your accountant to determine whether the price is justified.
In addition to funding the purchase, you also need to consider your ongoing requirements. Food customers tend to pay at time of purchase, so franchisees of established businesses don’t typically need a lot of working capital, but it’s different for new site franchisees who may take some time to reach break-even. In either case, before you open your doors there will be start-up expenses such as professional fees, pre-paid rent, wages and training costs. You need to be aware of all these as they will form part of your funding requirement – ask the franchisor for advice, and get your accountant to allow for them.
Using equipment finance to fund specific assets can be beneficial by enabling you to purchase specific equipment (ie. plant, machinery and vehicles) without the need for a lot of extra capital. It is important that you ensure that the loan term matches the useful life of the asset.
Note that franchise systems will require you to re-fit or refresh your outlet at some stage in the future – if you’re buying an existing outlet, make sure you know when that is due. Malls usually have a requirement to complete a refit every 3-5 years, which usually corresponds with the renewal terms of the lease. It is important that your funding structure takes this requirement into consideration.
If you are looking at buying a food business, take your time to research its strengths in a changing market. Get information from the franchise, do proper due diligence and talk to other franchisees.
Be prepared to pay for advisors like experienced franchise accountants and lawyers that know the sector. Finally, talk to specialist franchise bankers to help put in place the best possible funding options for the needs of this specific business. That way, you’ll set yourself up for success.
The information contained in this article is intended as a guide only and is not intended as an exhaustive list of matters to be considered. Persons entering into franchise agreements should seek their own professional legal, accounting and other advice.
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