Should A Restaurant Own Its Real Estate?
Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect. This post is not a substitute for legal advice and is intended to generate discussion of various issues. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel. Cara Stone, LLP and the author expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this post. The views expressed herein are personal opinion.
A common issue faced by people in the restaurant industry is the role of property in the business. Some restaurants have the opportunity to either buy the location they are operating in or buy the location when setting up the company. Purchasing real estate can significantly impact the restaurant’s financials and attractiveness to investors. Owning real estate can also influence the restaurant’s business structure.
When deciding how to structure the purchase of the restaurant’s real estate, a key question to consider is whether the operating company (i.e., the company that the restaurant’s cash flow runs through) is also the property owner. Often, restaurants create an LLC to operate the business and a separate LLC to own the real estate. Then, they will form a parent company to hold both entities. However, if there are multiple restaurant locations, the number of entities (and administration of those entities) can add up quickly. As with choosing the restaurant’s entity type, how the real estate is structured depends on the company’s goals.
If the owners or operators are new to the restaurant industry, owning the real estate may be a vital component of the transaction to the investors. Because there is long-term value in real estate and the restaurant game is risky, we see many deals where the investor group asks if the founding group owns the land or building. When real estate is a feature of the deal, the founding group can often raise more capital than when no property ownership is involved. Almost invariably, the investors will want to own the real estate and the operating company. This is where the entity structure comes into play.
There are several ways to finance property acquisition – bank loans, SBA loans, or raising money for operations. More often than not, in our experience, property ownership helps the founding team secure funding. However, investors may see an inherent issue if the founding group only owns the property and the investors are only investing in the operating business because there’s so much risk with the operating business compared to the ownership of the building. This may also present a conflict of interest.
Whether or not the investors own the real estate, the investors will want to make sure the lease amount is fair and makes sense for the business. When a restaurant owns its real estate, it must determine lease terms for the operating company. There are multiple structures for restaurant rent. Some restaurants pay a flat rate (which takes into consideration the mortgage and buildout costs), while others pay a percentage of sales. If owning the real estate allows the restaurant to pay a lower rent than it would otherwise pay while also having the security inherent in owning an asset (the real estate), then the real estate is an attractive part of the overall restaurant package.
Again, every case is unique. If it’s an option, we recommend talking to someone about leveraging real estate as part of your fundraising ability.
In some cases, restaurant owners may come into the opportunity to buy the property during the buildout or when operating. If this does happen, there are many legal issues to work through. For example, if you start leasing the location and the restaurant is doing well, the owner may say, “I’ll sell it to you if you have other owners, investors, employees, or other key people.” As the sole owner, you must be aware of certain conflicts and deal with them appropriately under the existing legal framework. One issue that may come up is fiduciary duties. If the restaurant has taken money from investors, it has fiduciary responsibilities to those investors. Secondly, the restaurant must find investment and navigate the above ownership issues unless it has cash or the business is bankable enough to buy the property outright. Either way, several complex legal issues must be considered, which will vary based on the situation.
There is a lot of nuance in deciding how to incorporate real estate into your restaurant structure. We’d recommend talking to someone familiar with these structures and any legal or tax complexities that may arise. Cara Stone’s team is happy to help. You can schedule a free call with us below.
Disclaimer: This post discusses general legal issues, but it does not constitute legal advice in any respect. This post is not a substitute for legal advice and is intended to generate discussion of various issues. No reader should act or refrain from acting on the basis of any information presented herein without seeking the advice of counsel. Cara Stone, LLP and the author expressly disclaims all liability in respect of any actions taken or not taken based on any contents of this post. The views expressed herein are personal opinion.
A common issue faced by people in the restaurant industry is the role of property in the business. Some restaurants have the opportunity to either buy the location they are operating in or buy the location when setting up the company. Purchasing real estate can significantly impact the restaurant’s financials and attractiveness to investors. Owning real estate can also influence the restaurant’s business structure.
When deciding how to structure the purchase of the restaurant’s real estate, a key question to consider is whether the operating company (i.e., the company that the restaurant’s cash flow runs through) is also the property owner. Often, restaurants create an LLC to operate the business and a separate LLC to own the real estate. Then, they will form a parent company to hold both entities. However, if there are multiple restaurant locations, the number of entities (and administration of those entities) can add up quickly. As with choosing the restaurant’s entity type, how the real estate is structured depends on the company’s goals.
If the owners or operators are new to the restaurant industry, owning the real estate may be a vital component of the transaction to the investors. Because there is long-term value in real estate and the restaurant game is risky, we see many deals where the investor group asks if the founding group owns the land or building. When real estate is a feature of the deal, the founding group can often raise more capital than when no property ownership is involved. Almost invariably, the investors will want to own the real estate and the operating company. This is where the entity structure comes into play.
There are several ways to finance property acquisition – bank loans, SBA loans, or raising money for operations. More often than not, in our experience, property ownership helps the founding team secure funding. However, investors may see an inherent issue if the founding group only owns the property and the investors are only investing in the operating business because there’s so much risk with the operating business compared to the ownership of the building. This may also present a conflict of interest.
Whether or not the investors own the real estate, the investors will want to make sure the lease amount is fair and makes sense for the business. When a restaurant owns its real estate, it must determine lease terms for the operating company. There are multiple structures for restaurant rent. Some restaurants pay a flat rate (which takes into consideration the mortgage and buildout costs), while others pay a percentage of sales. If owning the real estate allows the restaurant to pay a lower rent than it would otherwise pay while also having the security inherent in owning an asset (the real estate), then the real estate is an attractive part of the overall restaurant package.
Again, every case is unique. If it’s an option, we recommend talking to someone about leveraging real estate as part of your fundraising ability.
In some cases, restaurant owners may come into the opportunity to buy the property during the buildout or when operating. If this does happen, there are many legal issues to work through. For example, if you start leasing the location and the restaurant is doing well, the owner may say, “I’ll sell it to you if you have other owners, investors, employees, or other key people.” As the sole owner, you must be aware of certain conflicts and deal with them appropriately under the existing legal framework. One issue that may come up is fiduciary duties. If the restaurant has taken money from investors, it has fiduciary responsibilities to those investors. Secondly, the restaurant must find investment and navigate the above ownership issues unless it has cash or the business is bankable enough to buy the property outright. Either way, several complex legal issues must be considered, which will vary based on the situation.
There is a lot of nuance in deciding how to incorporate real estate into your restaurant structure. We’d recommend talking to someone familiar with these structures and any legal or tax complexities that may arise. Cara Stone’s team is happy to help. You can schedule a free call with us below.
