August 14, 2013

business basics

The Fine Art of Financing:

Examine all options when looking for loans

By Ed Avis

About two years ago John and Alma Ramirez needed $25,000 for renovations at two Los Lupes Mexican Restaurants, a six-location family restaurant John’s mom started in 1972.

The two locations they own, in Duncanville and Cedar Hill, Texas, have decent cash flow. But because revenue is not the same every week, the couple wanted a financing option with flexible pay-back terms.

They considered several options, but finally settled on a loan from Capital Retail Solutions. The reason? Repayment was made through Los Lupes’ credit card sales. Each time they batched the day’s sales, a percentage went towards the loan.

“If you don’t sell a lot that day, they don’t take out a lot that day,” Alma says. “That’s why we used them.” In six months the loan was repaid.

While that solution was right for the Ramirezes, it might not be the best one for every restaurant. As the economy slowly rises out of recession, the options for financing are also slowly rising, too.

Friends, Family Predominate

“Everybody thinks you just go to the bank and get a loan when you want to start a restaurant,” says John Hamburger, publisher of Restaurant Finance Monitor. “That happens, but only with the multiple-unit operators and franchisees. It’s not happening with the guy who wants to open a bistro.”

Borrowing from family and friends, Hamburger notes, remains the most common way small operators finance new restaurants or renovations. A similar option is to have customers join the business.

“I’ve seen situations where a chef with a decent following wants to open his own restaurant, and he gets together with some customers who are well-to-do and want to fund it,” he says.

Asking the landlord for help is another approach. For example, a landlord eager to secure a new tenant might pay for renovations, freeing up the owner’s cash for other needs.

Merchant Cash Advance

One of the easiest but most expensive ways to get quick financing is through a merchant cash advance, which is a loan against future credit card revenue. Merchant cash advance firms make loans to operators with less than stellar credit, and typically deduct payments directly from credit card sales.

The fee to borrow the money is tacked onto the loan amount upfront, so the true interest rate depends on that fee and the repayment time. For example, a typical fee on a $30,000 merchant cash advance may be $7,500. If the term to repay the loan is six months, the annual interest rate works out to 90 percent, far more than a typical bank loan, Hamburger notes in a Restaurant Finance Monitor story.

“It’s ridiculously expensive,” Hamburger says. “So if you’re using it for payroll, forget it. But if you can do something with that money that’s going to bring in much more revenue, then it might work.”

Hybrid Options

An option that falls between a merchant cash advance and a typical bank loan is what the Ramirezes did through Capital Retail Solutions. Unlike a merchant cash advance, these hybrid loans are offered to companies with somewhat better credit, though perfect credit is not required.

“A lot of restaurants are good at cooking, but not so good about managing their books,” says Wayne Bybee, president of Capital Retail Solutions. “So we do an analysis of the business and make sure we put them in a program that is manageable.”

Bybee’s firm requires that a company be in business for at least two years and have at least $15,000 per month in sales, in addition to some other credit related criteria. In exchange for the stricter requirements, interest rates are substantially less than those associated with a merchant cash advance.

For example, a $10,000 unsecured loan from Capital Retail Solutions would typically cost a restaurant $1,670 over the course of a year, plus a $495 origination fee that is deducted from the original loan amount. That works out to an annual interest rate of 22.8 percent, which is higher than a bank loan but much lower than that for a regular merchant cash advance.

Equipment Leasing/Financing

If you are seeking money to acquire a specific piece of equipment, consider leasing or financing options from the manufacturer. Many manufacturers offer financing at reasonable terms, because it helps them sell more product.

Third-party companies also offer leasing. Ice machines, for example, can be leased, and many restaurants find that an attractive option. But the long-term price for third-party leases can be high.

“You have to be real careful because it can be very expensive if you don’t know what you’re doing,” Hamburger notes. “With a lease you could end up paying double.”

Bank Loans

The best interest rates come from traditional bank loans. Owners of franchises and large multi-unit independents typically have a much better chance of getting bank funding than small independents do.

“I find owners of franchised deals to be a bit more sophisticated in their administration and ability to get credit,” says Joseph Hansen, senior vice president of Bank of the West based in Grapevine, Texas. “That is not to say small [operators] cannot get access to credit if they can get a good presentation together.”

Hansen says bankers look at a solid business plan, a history of strong cash flow, and available collateral when evaluating a restaurant’s loan application.

Menu planning that takes into consideration cost control and marketing is also important. “Investing in menu development may give [the restaurateur] the ability to manage both his marketing efforts and control costs by altering ingredients in advance of major price swings,” Hansen notes.

There are many financing options available for Mexican restaurants, but the key to evaluating any credit option is to make sure that you will ultimately earn more with the borrowed money than it will cost you to repay that cash.

The Spanish version of this story is available at


What Interest Rate am I Really Paying?

It can be hard to compare interest rates among different loans, because fees and repayment terms vary widely. And many lenders don’t want restaurant owners to realize how much they are actually paying in interest, so they don’t make it easy.

But it’s important to know the annual interest rate you’re really paying. To find that rate, take the payment the lender says you will have to pay. Multiply that by the number of payments you have to make to get the total amount you will repay. Subtract your original loan amount from that total to find the total amount of interest you have paid. Divide that by the amount of the original loan, then divide that by the number of years you had to repay the loan. This will give you the simple annual interest rate.

Here’s an example. Juanita needs $50,000 to renovate her restaurant. The lender gives her the money, and tells her to make weekly payments of $1,100 for 52 weeks (one year). Multiply 52 by $1,100 and you get $57,200. Subtract the original amount of the loan ($50,000) and you get $7,200. Divide $7,200 by $50,000 and you get 0.144; she has exactly one year to pay the loan, so divide by 1, which still gives you 0.144. This is 14.4 percent. That’s the simple annual interest rate Juanita will pay on her loan.

Now Sam needs $50,000 to renovate his restaurant. A different lender gives him the money, and tells him to make weekly payments of $2,200 for 26 weeks (half of a year). If Sam makes the 26 payments he will pay the same total as Juanita did, ($57,200) and the same amount of interest ($7,200). Divide by the original loan and you get 0.144. But Sam had to make his payments in only 6 months; divide 0.144 by 0.5 (because 6 months is half a year) and you get .288, which is 28.8 percent interest. Wow, Sam will pay double the interest rate that Juanita will pay!

This calculation does not take into account compounding or fees, which can significantly increase the effective interest rate. But it you use the same calculation on all the loans you are offered, it will give you a fair comparison.

August 14, 2013

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