Ever thought of investing in a restaurant and decided against it? That can be an understandable reaction given some of the headlines about failed ventures. That does not mean the sector is a no-go for those able to take a diversified approach in certain areas, according to the author of this article.
Demand for capital
Growth across the industry has led to a high demand for capital, with a total financing need across the sector estimated to range from $15 billion to $20 billion annually. (9) Within the quick-service and fast-casual segments, several recent trends are reshaping the competitive landscape and driving the need for capital. Most notably, many large brands have gravitated toward supporting a smaller number of franchisees, favoring proven operators who can deliver strong results across a large portfolio of locations. As a result, franchisors have been actively buying locations from weaker operators and selling them back to stronger ones, who often require financing options to complete the transactions.
Many franchise operators have shown a preference for non-dilutive financing, opting to take on debt rather than equity investments. This has proven to be an attractive proposition for potential investors, as it allows them to invest in senior secured loans, which mitigate downside risk. Such loans are often privately negotiated and therefore lack a liquid secondary market. However, they typically provide current income from contractual interest payments, often at a premium to yields from public fixed income securities, allowing investors to realize returns more quickly than they would from private equity investments.
Quick service and fast casual restaurants: A late-cycle diversification opportunity
Food and beverage products elicit daily demand regardless of business cycles, as consumers continue to eat three times a day even when their incomes are squeezed. In fact, the low-cost nature of limited-service restaurants often makes them more attractive during difficult financial times. As investors look for ways to diversify their portfolios to protect against a potential recession, the QSR and FCR segments should provide low correlation to the broader economy while offering meaningful growth potential.
1, Source: US Census Bureau, BEA.gov & Restaurant Research
2, Source: Pew Research Center, “8 Facts about American Dads,” June 2019. https://www.pewresearch.org/fact-tank/2019/06/12/fathers-day-facts/ft_17-06-14_fathers_dual_income-2/
3, Source: Bureau of Labor Statistics, as of 2018. https://www.bls.gov/charts/american-time-use/activity-by-hldh.htm
4, Source: United States Department of Agriculture, as of 2018. https://www.ers.usda.gov/data-products/chart-gallery/gallery/chart-detail/?chartId=58364
5, Source: CapitalSpring Industry Update Q4 2018: Food Away from Home on The Rise; US Department of Labor
6, Source: eMarketer, 2019.
7, Source: UBS, “Is the Kitchen Dead,” June 2018.
8, Source: 2018 Hospitality Technology Magazine.
9, Source: Restaurant Research Finance & Valuations – 2019. Estimates only for $1 billion chains and their franchisees - $11 billion of financing needs for 2018, including real estate financing. CapitalSpring estimates subordinated debt, equity, and refinancing needs of $4-9 billion annually.
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