What is Your Restaurant Worth? Top Four Factors in Restaurant Business Valuation
4 Min Read By Bruce Hakutizwi
Your restaurant. It was your dream business and, if it’s become successful, there’s no doubt it’s been a labor of love. Over the years you’ve poured blood, sweat, and probably even a few tears, into growing and nurturing it.
Now you’re ready to sell. When it comes to valuing your restaurant, however, all of that history and attachment can cloud your ability to properly value your business and put it on the market. If that’s the case for you, it can be extremely helpful to take an unbiased look at exactly what factors go into determining your business valuation.
Let’s take a look at the top factors that you must consider when assigning a value to your restaurant:
- Cost of Assets: You’ve probably amassed a lot of equipment in your restaurant and when you’re ready to sell, you’ll need to determine whether or not all of these assets will go with it. If so, you’ll need to determine what you’ve invested in them. While you can’t hope to recoup the entirety of your investment, the condition and value of these assets must factor into your final price.
- Age of Your Restaurant: How long your restaurant has been in business, and how many of those years it’s been profitable should also factor into your price point. For some buyers, a new business, even if seemingly profitable, can feel like a riskier proposition than an established restaurant with a long and proven track record. Conversely, a new successful business can be attractive, particularly if it’s capitalizing on a trend that’s likely to stick around (a healthy, delicious farm-to-table concept restaurant, for example).
- Customer Base and Loyalty: Any business is nothing without customers, and this is especially true for restaurants. Loyal customers are your biggest proponents and your most effective marketing tool. If you have an established customer base this can be very appealing to a prospective buyer that is looking to retain your same business model, menu, and staff.
- The Economy: The market significantly impacts the valuation of your restaurant. In a down economy, a popular restaurant could be worth less than it once was. This can be a tough pill to swallow as a seller, but you must again remember that your buyer is unlikely to have an emotional attachment to your business, or care much about “the good old days.” On the other hand, a booming economy can allow you to fetch a much higher price.
From the buyer’s perspective, there are generally a couple of approaches they’ll take to determine what they are willing to pay for your restaurant. Here is a brief overview, and then we’ll look at methods you can use to place a value on your specific business.
Assets in Place: In this scenario, a buyer has their own concept and menu in mind and is primarily interested in the fixtures and equipment, lease, leasehold improvements and business licenses. Pricing for an Assets in Place purchase is based on the ratio between the sales price and annual sales. So, if your restaurant is generating $500,000 in annual sales and the sales price is $150,000, the sales price would be about 30 percent of yearly sales. Most buyers taking this approach are savvy in the market and have developed a sense of the proper and fair value of businesses based on comparable businesses for sale.
Going Concern: With this method, prospective buyers are typically interested in maintaining the existing business model, including the name, menu, and even the same operating procedures and staff. This method includes the lease, leasehold improvements, fixtures and equipment, and cash flow as part of the sale. The primary valuation method used in Going Concern is the annual adjusted cash flow method, also known as discretionary earnings. To that end, the net profit on the tax return or income and expense statement is adjusted by adding back certain expenses to the net income, including payroll taxes, working salary, health insurance premiums, depreciation and amortization, to name a few. Some non-recurring expenses such as legal fees may also be added back to the net income in this scenario. Once the restaurant’s yearly adjusted cash flow is determined, using a sales price multiplier is the generally accepted method to determine the value of the business.
Now, let’s look at common methods you can use to remove the emotion and set a fair and accurate value that you can easily back up when a potential buyer comes knocking.
- Income Valuation: This approach is based on the amount of income a business will generate for its new owners. Once the initial value is determined, you then need to estimate what your restaurant will be worth in the future. Determining both of these values typically requires the expertise of professionals, including a business broker.
- Market Valuation: This method places more weight on your restaurant’s potential than its current earnings. This can be an effective method if your business is newer, or if you bought your business at the beginning of a trend that is quickly taking off. Using this method, your restaurant is priced based on its value in an open, competitive market.
- Comparable Sales: If you own a small restaurant, you’ll want to consider what others in the same or a similar area have sold for when setting your price. If you have a larger restaurant, however, you can take into account factors such as the stock market and how other similar businesses are performing.
- Asset Valuation: This method is very straightforward and there is little room for consideration of what may or may not happen in the future. With asset valuation, you’re looking at just the hard facts around what is happening in your market and your restaurant right now. In this method, value is set based on your restaurant’s assets, minus its liabilities. For example, if your assets come to $150,000, and current debts amount to $40,000, your asking price would end up at $110,000. This is often the best scenario if you are just looking to get out of your business quickly without reaping a big profit.
When it comes time to sell your restaurant, there are many tangible and intangible factors. Your restaurant is unique, and even if you’re very ready to sell, that emotional connection can make setting an accurate and feasible price extremely difficult. This is where a professional business broker can be invaluable. These professionals can help you remove the associated emotion and hammer through the details that will help you set the best price to attract buyers while still meeting your own financial goals for the sale.