Understanding the Key Elements of Getting a Restaurant Loan
If you are thinking about getting into the restaurant business or are an established owner and are looking for a restaurant loan, be prepared to spend a bit of time and effort. Now that we have your attention, there is some good news. While restaurant loans are notoriously difficult to land, the evolution of non-bank specialty lenders has made it a lot less burdensome for owners. And, as a result, even traditional banks are beginning to look at restaurant loans a little differently.
Financial Challenges Every Restaurant Owner will Face
Every restaurant needs working capital. Seasonal downturns and general decreases in disposable income can impact restaurant owners significantly. Meanwhile, staff must be paid, inventory must be purchased, and operational costs and insurance costs can mount. Biz2Credit can help provide working capital in the form of restaurant business loans, lines of credit, advance restaurant finance, and other forms of financing that can ease any cash crunch.
The bottom line with restaurant loans is that they traditionally represented a high default risk for lenders. Many creditors looked at restaurants as too risky to lend to. As the restaurant financing business has evolved (with the help of financial technology), lenders have learned how to mitigate the risks associated with lending to restaurants. One of the top reasons restaurants fail is due to cash flow shortages.
As mentioned above, restaurants often experience uneven cyclical business patterns that can disrupt cash flow and cause financial hardships that often lead to failure. However, with proper financing and fiscal management, many of the hardships and "uneven" financial stresses can be avoided.
In addition, tax and regulatory requirements can be overwhelming for a restaurant owner. Once again, even if a restaurant serves great food and has a robust business, even the slightest bit of mismanagement can jeopardize the entire health and future of the operation. Understanding what resources you need, including professional services and the proper financing can mean the difference in a long-standing, successful business and another first-year failure.
Choosing the Right Restaurant Financing
So the obvious question is, "what is the right restaurant loan, and where do I apply?" The answer may surprise you. The answer could be that the right financing for your location includes several specialized loans instead of a single, general purpose loan.
Loans have become more and more specialized in the past decade. This is a benefit to restaurant-owners looking for loans because the narrow focus of the loan proceeds allows lenders and borrowers to be more precise about loan amounts, reducing unnecessary borrowing and borrowing costs. For example, when purchasing restaurant equipment, equipment financing is likely more financially suitable than a business term loan, a business credit card or a business line of credit.
Why piece together multiple loans for a restaurant? In the example above, a restaurant owner is likely to pay much less interest with equipment financing (and pledge the equipment as collateral) than the rate for a loan or cash advance. This is perhaps the most dramatic example.
However, there are times when a business owner may need a cash advance, such as buying perishable inventory like supplies, where you know it will turn-over quickly and you can repay the loan in a timely manner. Examples of this would be popular dining holidays such as Valentine's Day, Mother's Day or New Year's Eve. Or when your busy season approaches. As a restaurant owner, you are bound to be very busy and will likely need to order multiples of your regular supplies or add additional staff. In this case, using a merchant cash advance which is often paid back through a portion of credit card sales may be more appropriate and help stabilize your cash flow.
In another example, say you get an offer to buy premium wines or spirits at very favorable prices and could sell them at high margins; that would be a good investment, right? This happens all the time. Have you ever heard the expression "you don't make money selling, you make it buying?" This has to do with purchasing power. However, it may take some time to sell expensive bottles of wine or premium liquors so you want a longer repayment horizon that will allow for the sales to keep pace with the payments.
If you could buy a bottle of wine at $20 and sell it at $60 that's a 200% profit or $40. If you are paying 15% in interest on the money you borrowed to purchase the wine that reduces your profit by only 10% you end up making $37 per bottle. In this case, you would want to use a business line of credit or a business credit card to make the purchase since they have longer repayment horizons, thus preserving your cash flow.
Let's explore the various types of financing that may be used as a restaurant loan or source of restaurant financing.
An SBA loan is the most desirable long-term loan for many business owners because of the low interest rates and the longer repayment terms.
What is an SBA Loan?
The U.S. Small Business Administration, or SBA, is a federal agency that provides loan guarantee programs and other services to support and encourage the growth and development of small businesses across the United States. It was founded on July 30, 1953, and has delivered over 20 million loans, guarantees, counseling sessions, contracts, and other forms of assistance to small businesses across the country. SBA loans are offered to merchants through multiple financial institutions.
SBA Loan Guarantee Program
The SBA guarantees a portion of the loan, which makes it easier for funders to provide loans to small businesses that may fall in a higher risk category. These businesses may not be in a strong enough financial position to obtain traditional bank small business loans, and therefore rely on the SBA guarantee.
Common SBA Loan Program Features
SBA programs offer lower down payments and longer term financing, which can help businesses just starting out, those looking to expand, or better manage their cash flow. This allows small businesses to focus on operational expenses rather than debt repayment.
What Can I Use an SBA Loan For?
Loans from the SBA are provided for various purposes. These include business start-ups or acquisitions, working capital, owner-occupied real estate, franchise financing, inventory, debt refinancing, equipment, and even improvements and renovations.
Equipment financing is a type of small business loan used primarily to purchase business equipment like computers, machinery, vehicles or most any business equipment. Business owners may use the new equipment as collateral for the loan, making equipment financing a smart way to preserve on-hand cash.
What Are Qualifications For Loan to Finance Equipment?
Qualifications are generally similar for equipment financing as for many other types of small business loans. Lenders will consider the business owner's personal credit score, length of time in business, repayment history and company cash flow.
However, one of the advantages of equipment financing is that you get to use the equipment that you are financing as collateral. This way you do not tie-up other collateral or free cash flow to make needed equipment purchases.
When to use equipment financing? This is pretty straight-forward. Use this type of funding for large-ticket item purchases of restaurant equipment and machinery.
Merchant Cash Advance
Merchant cash advances are suitable for a wide range of business owners who have a steady credit card/debit card business. Retail stores and restaurants are some of the most common types of businesses that use a merchant cash advance.
Qualifications for a merchant cash advance
A merchant cash advance will generally cost more than other types of business financing and should be used only in times of urgent cash need and when the business owner has a reasonable expectation of repaying the loan in a short period of time.
One of the benefits of this type of funding is that many lenders have liberal standards to qualify. That means if you have less than good credit rating, a limited operating history and little or no collateral, you can still qualify.
When to use merchant cash advances? Use this type of funding sparingly when you know that by doing so you will increase your business volume quickly as a result.
Business Line of Credit
A business line of credit can be seen as a cross between a business loan and a business credit card. Like a business loan, an unsecured line of credit provides business financing that can be used for general business expenses. However, with a line of credit, there is no lump-sum disbursement; a business owner borrows only what is needed and only pays interest on the amounts borrowed.
Like a credit card, the amount of capital available to draw down and the payments are revolving and is usually subject to annual review. Interest begins to accrue only when money is drawn (or borrowed) and interest only applies to those amounts. The funder will set a limit on the amount the business may borrow.
When to use a business line of credit? Use this type of financing for larger purchases or expenditures that may take time to repay in order to reduce monthly repayment amounts over a longer period.
Business Credit Cards
Most people are familiar with a business credit card. It is revolving credit which means that your borrowing limit remains constant and is reduced by purchase amounts. Once paid, the credit is automatically available to the level of the original amount.
Helps in Bookkeeping
Making payments for all business purchases and meeting related expenses with a single credit card, paves the way for better 'bookkeeping' of the company. The credit card users can simply refer to their card statements on a monthly, quarterly or yearly basis and know their expenses at a glance. Payment for all purchases can be made with one check each month, thus facilitating ease of managing a business checking account.
Rates for credit cards tend to be higher than other forms of borrowing but better in most cases than a merchant cash advance, so it should be used accordingly. In addition, borrowing or spending limits tend to be lower, but maintaining a solid payment history with a business credit card will help build a better credit profile.
Finally, business credit cards often offer discounts, cash back and/or rewards. When purchasing everyday items and supplies, these extras can add-up.
Uses of a business credit card? Use your credit card to purchase supplies and other regular recurring purchases. When paid-off immediately a business credit card can help with cash flow (interest free within the grace period) and the perks associated with higher spending levels can add-up to thousands in cash-back or useful services and items for business.
Purchasing or licensing a restaurant franchise is a very popular and stable way to get into the restaurant business.
Franchise business loans typically come with more attractive terms than you are likely to find for any other type of start-up business loan. This is because lenders consider the financial stability, business model, and previous success of the franchise parent company when reviewing a loan application. Banks and alternative lenders are finding franchises to be an increasingly attractive investment.
In 2011, the SBA reported approval of $1.5 billion in 7(a) loans for franchises, up from approximately $826 million the previous fiscal year. The 7(a) loan-guarantee program is the SBA's most popular loan program.
Despite the relatively easier access to capital that a franchise owner enjoys, there are many different elements to think about before purchasing a franchise. Each franchise is operated differently and will come with its own set of operating and start-up costs.
Business Acquisition Loan
A business acquisition loan allows you to:
- Purchase an existing business that has already been established
- Acquire or open a new franchise location
- Buy-out a partner in a business you presently own
Business acquisition loans include several options which we will explore here. The amount of funding and the cost of borrowing (interest rate/APR) will depend on the industry sector of the business you are trying to acquire, the balance sheet of the target company and your personal credit history.
Getting a loan to buy a business can get complicated and usually will take longer than other types of business loans. This guide is designed to provide an overview of the types of financing business owners use to acquire new businesses.
Carefully consider the options and the examples given above when choosing financing for your new or existing restaurant. Links in the sections about loan types provide access to deeper coverage of the types of restaurant loans that might be suitable for your circumstances.
Use Restaurant Loans and Financing to Grow Your Business
To conclude, when it comes to restaurant financing, it is almost always best to consider a hybrid financing approach. Remember, the key to success once you have your business running is to maintain your positive cash flow. Much of that work can be done by managing expenses and choosing the right financing for the right situation.
Finally, there are many additional programs for financing that cater to certain specialty groups that may deliver low-cost financing and in some cases, grants to business owners as well as existing businesses.
Financing for All Kinds of Restaurant Owners
Here are some useful links to explore further if you think you will qualify:
- Business Loans for military veterans
- Business Loans for women
- Business Loans for Latinos and minority-owned companies