BUYING AND SELLING RESTAURANTS
Buying and Selling a Restaurant in Today's
Difficult Economic Climate
selling a restaurant can be a difficult venture in any economic
climate, but is significantly more risky in today's economic
climate. Before you begin the process of buying or selling a
restaurant, you should have a good understanding of the process and
the possible pitfalls, since this is likely to be a significant
transaction in your business career. Remember, buying and selling a
business is a business unto itself.
various retail formats in the food industry, restaurants seem to
involve the most subjectivity. Buyers often seem to be attracted by
the romance or perceived glamour of the restaurant business which
can impair both objective evaluation and negotiating leverage.
Conversely, sellers can be reluctant to acknowledge bona fide
negative factors that reduce the value of a restaurant and may cling
to a higher, hard to justify sales price. To improve your chances
for success, consider the following summary description of common
pitfalls in the buy-sell process.
I. BUYING A
be many reasons for buying an existing restaurant, as opposed to
starting a new venture. The most obvious benefits are the existing
restaurant’s track record and its location. Other advantages may
include an existing liquor license or other franchise/license, such
as a sidewalk café. Depending on the location, these licenses may
be significant assets, greatly enhancing the value of the
transaction. For example, while a new liquor license application is
pending before the State Liquor Authority (“SLA”), the
“transferee” of an existing liquor license may operate under a
temporary permit. A “new” location offers no such advantage. As
such, new ventures must go through the entire approval process
before doing business.
Legislature is attempting to make it increasingly difficult to open
new licensed premises in certain locations. A 1993 amendment to the
Alcohol Beverage Control Law requires an additional hearing to prove
that the issuance of new licenses within 500 ft. of three or more
already licensed premises will advance the "public
interest." Recently, community opponents used this provision in
State Supreme Court to block the SLA from issuing a license to a new
restaurant in Soho.
sidewalk cafe franchise is a valuable existing asset. A new
franchise requires an arduous, expensive and time consuming land use
application, with the results by no means "guaranteed."
However, existing franchises run with the land, and are not personal
to an individual operator.
purchase a restaurant, what you are primarily buying (other than
name, phone number, lease, leasehold improvements, equipment, etc.)
are: (i) a stream of income (which alone should justify the sale
price); and (ii) the ability to ultimately sell the restaurant and
realize a capital gain. Anything that could adversely affect or
reduce the “net" amount or term of the stream of income, or
the value of the business for resale, must be carefully considered before
you tender your first offer. Unfortunately, in many instances,
purchasers only become aware of such negative factors when it is too
buyers must spend more time up-front, conducting their "due
diligence": legal, financial and field research on the
business to determine precisely what that business is worth to
Many of the
essential issues in the deal may not be definitively addressed and
resolved in negotiation or in the legal instruments memorializing
the transaction, but can only be clarified or resolved by
considerable early due diligence. For these and other reasons, it is
important that your professional advisors be very conversant in the
food/restaurant business, as well as knowledgeable of the legal and
seller will not tell you:
(i) THE BIG
LIE: While the sales volume of the subject restaurant may appear to
substantiate the purchase price, the actual profits, taking into
account all of the apparent and not so apparent costs and
expenses may not justify the sales price. It is imperative to
conduct a lengthy "trial run" period, confirming sales
volume, actual expenses, and "take home" profits.
"WHITE KNIGHT" STRATEGY: The seller or their business may
be troubled - they may be in default on their supply/credit
agreements, their commercial lease, or may be under investigation by
tax or other regulatory authorities (State Liquor Authority, Board
of Health, etc., see discussion below). The seller, having superior
knowledge of the customer base, the neighborhood and the potential
for increased competition, may be seeking to sell before these
factors become apparent to prospective purchasers. If so, a patient
purchaser may be able to negotiate a lower price or better terms.
CHINA SYNDROME: The seller may know the location has the potential
for significant disruption or interference of business operations.
For example: (a) the location does not comply with the Americans
With Disabilities Act, or other Building or Fire Department
regulation, necessitating substantial alterations; (b) under- ground
storage tanks are located on the property, allowing the N.Y.S.
Department of Environmental Conservation to conduct an
investigation, and, if necessary, require remedial measures which
could significantly disrupt the business.
Your due diligence, should,
at a minimum include a full title and judgment/lien search.
Potential buyers might be amazed at what basic inconsistencies or
problems such a search could reveal, such as a restaurant not zoned
for such use (the restaurant use must be reflected on the
certificate of occupancy). The title search should include all
outstanding municipal violations against the premises. In New York
City, you would want to know all Building Department, Fire
Department, Environmental Protection, Sanitation or Health
Department violations. A judgment/lien search may reveal such basics
as defaults in creditor or supplier agreements, or problems with the
State Tax Commission. A buyer should also check with the SLA to
determine if there is a history of complaints or disciplinary action
at this restaurant.
unlikely that a seller who has built a thriving, highly profitable
restaurant with no current or imminent problems would sell for less
than a very generous price, unless there are some negative issues
which are not yet apparent. Remember that every business has both
its "nut" (total operating expenses) and a
"hole" ("surprise" expenses) - buyers must
identify the extent of both, because hidden costs can turn a viable
business into a troubled one. Therefore, the goal of a buyer's due
diligence is, in part, to determine the seller's true motives for
recommend the following strategies: (i) negotiate for the right to
offset against promissory note payments for seller's breaches or
misrepresentations; (ii) conduct a lengthy trial run with a purchase
contingency (based upon certain thresholds for sales, expenses,
etc.); (iii) obtain the right to reduce the principal amount of the
notes for catastrophic business interruptions outside of the buyer's
control (e.g. termination of lease because of landlord's default on
its mortgage, eminent domain, etc.).
must also be "diligent" in researching potential buyers.
This is particularly true when they are not receiving the total
purchase price at closing or remain liable post-closing on the
commercial lease or other agreements. In a troubled economic
climate, the risk is even greater that the buyer may not be able to
make good on the promissory note payments. Sellers must carefully
screen potential buyers to determine whether they have the
dedication, skill, experience and financial wherewithal to survive
and hopefully prosper in the business being acquired.
ways to reduce risk include selling for all cash, keeping the
promissory note payment period as short as possible, and having the
deal secured with "hard" assets. Be careful when deciding
between the "better" buyer and the higher sales price by
taking into account the likelihood of the buyer's full compliance
and the potential cost of enforcing that compliance.
buyer will not tell you:
ARE UNDER-FINANCED: We all know that under-financing is a major
cause of business failure. In the event that your buyer is borrowing
all or part of the capital that they will deliver by closing (i.e.,
contract deposit, non-financed balance, closing adjustments), they
will now be further encumbered with the financial bur- den of
repaying that indebtedness (typically short-term), in addition to
all of the expenses associated with operating the business.
Accordingly, it will be much more difficult for such a buyer to make
good on your promissory note payments. Remember, the landlord,
suppliers, employees and even the buyer's salary will get paid
ARE INEXPERIENCED: A major concern of sellers is that the buyer does
not have substantial experience in running and operating a
restaurant, or will not actively manage the business. If the buyer
is not very experienced in restaurant operations, or does not intend
to be a "hands-on" manager (thereby increasing employment
expenses and chances of theft), the buyer's ability to service your
promissory note obligation and remain current on the rent and other
expenses may be significantly impaired.
"back." In order to minimize the common problem of
receiving the last six months payments on the promissory notes, give
the buyer an incentive to fully satisfy their obligation by making
reductions in the purchase price or other incentives contingent upon
the purchaser's full compliance with all terms and obligations of
the note and related sale agreement.
when you are selling a business and either lending the buyer capital
to purchase the business or are compelled to remain liable on the
commercial lease or other agreements, some of the most essential
considerations are: Who is the buyer?; What is their background?; Do
they have sufficient start-up capital (not including borrowed
funds)?; and will they actually manage and operate the restaurant?
J. Gulotta, Esq. is in private practice with offices in
Manhattan and Westchester. His firm, The Gulotta Law Group, PLLC
represents clients in business law, franchises, litigation and real
property law (both commercial & residential). Mr. Gulotta is a
faculty member of the Continuing Legal Education Departments at
Fordham Law School, Pace Law School and at the Association of the
Bar of the City of New York, where he lectures on the subject of
buying and selling retail businesses. Mr. Gulotta is also a featured
columnist for The New York Law Journal, The National Law Journal,
Convenience Store News and the Veteran Leadership Program,
Chester, Esq. is in private practice in Manhattan and can be
reached at (212) 725-1700. He has over 12 years of experience in
commercial transactions, real property law (including commercial
leasing and zoning work), and licensing matters before
administrative agencies (including the State Liquor Authority). He
has represented numerous restaurants and cabarets. Mr. Chester was a
founding member of the Association of the Bar of the City of New
York's Committee on Land Use and Zoning.
article is intended to provide practical advice and information for
the food service entertainment industry in New York City. It is
distributed with the understanding that neither the New York State
Restaurant Association nor the authors are rendering legal opinions
nor offering legal advice to the readers Of the article. If legal
advice or opinion is required, the services of an attorney should be