Guide to Restaurant Due Diligence

Performing due diligence on a restaurant for sale can be tricky. So we’ve put together this guide to performing due diligence on a restaurant with input from experienced restaurateur Franco Pardini of successful Leeds restaurant group, Franco’s.

The Lease

A good location can often be critical to the success of a restaurant. The number of people passing a restaurant (footfall) will often make or break the success of a restaurant. Without the footfall, you might struggle to attract new customers to your restaurant following your purchase.

Increasingly landlords are being more cautious when assigning a lease to a new restaurant or restaurant buyer. On occasion, it has been known that some landlords refuse to assign a lease unless the buyer has prior experience in the restaurant industry or agrees to pay a year of rent upfront.

Given the potential for an issue with the lease, I recommended that you deal with the leasing aspect of the potential deal as soon as possible.

Valuing the Restaurant Business You Are Thinking of Buying

Restaurants are typically valued on either asset or cash flow multiples. All the valuations of restaurants for sale on Bizdaq will be based on an accurate valuation using our Instant Valuation Tool. The tool analyses the annual turnover, asset value and freehold value (if relevant).

You might also take into account the hours of operation which the restaurant uses. For example, an owner-run business that is operated five days a week for lunch and dinner which makes £100,000 a year is definitely worth more than one that is open 7 days making £120,000.

Previously there was a very general rule used to value different restaurants, this depending on the total number of meals and the number of days it was open for business.

Another measurement for you, albeit operating on revenue, not profit: The number of days the business is open correlates the revenue and value as so.

• Five days: 70% of Gross Annual Revenue
• Six days: 60% of Gross Annual Revenue
• Seven days: 50% of Gross Annual Revenue

Costs of Running the Business

Rent, food and staff costs are the main elements that must be taken into account when running a restaurant.

A (very) general rule that you can apply when analysing the finances is the total combined cost of food, staff and rent should not exceed 65% of the total revenue of the business. Breaking this rule may lead to you running the risk of operating in the red. This could be catastrophic and may lead to the closing of your doors, permanently.

An example of a typical breakdown is:

• Food: 32-33%
• Staff: 22-25%
• Rent: 6-10%

The optimum range when these figures are combined should be between 64-66%.

The Equipment

Unless you are an expert, it is worth taking the time to have the equipment inspected and evaluated by a professional. A broken or temperamental extraction unit or oven may cost you thousands before you have even started running the business. If you decide to replace any equipment there is some good news. There is a large market for used equipment at substantial savings, you can offload your old equipment for parts or scrap and buy 2nd hand at half the price.

When assessing the equipment ensure you pay close attention to the refrigeration units and the buildings AC, remember to ask who the owner uses for repairs. If they provide with the name of a company, ring them and ask how many times they have visited the restaurant in the last 12 months, have they recommended any maintenance or repairs? Have they been completed?

Food Hygiene Checks

Food hygiene certificates are required by all food and catering businesses. These certificates are publicly available so make sure that you check the current rating before agreeing.

Additionally do your own check by asking for a copy of the training handbook, reports and providing your own inspection.

Buyer Checklist

• Does the restaurant have a healthy cash flow?
• When looking at the financial documents, can you (or your accountant) decipher where all the revenue is originating from?
• Does the company have physical assets (equipment) are they functional and valued?
• Are there any hidden liabilities?
• Check the social media and review sites to analyse the online reputation of the restaurant.
• Are all of the company documents up to date and complete?
• Has the business paid its outstanding debts up to date (tax, rent, wages, rates, loans)?
• Does the business lease property? If yes, when does the lease end? Ensure that the lease being transferred to you is part of the sale contract.