Global economic pressure is making real estate transactions difficult. As a result, brick-and-mortar franchises — and many of their franchisees in industries like restaurants, entertainment, and retail — are facing new challenges to their growth plans. In the face of inflation and interest rate hikes, supply chain problems, a labor shortage and a host of other problems have emerged, dampening the dealmaking spirit of many.
The confounding aspect of this is that there’s a subset of deep-pocketed franchise operators that are meeting many of the challenges and have both buying and selling opportunities — and doing just that, by creating acquisition and new development opportunities that come from developing ones consumer trends.
Redesigns and upgrades have quickly enveloped restaurant and retail concepts, opening up opportunities for well-capitalized groups. They have the capital and credit to make moves, and many longtime owners are ready to retire from their businesses. That’s partly because they don’t want to invest in things like new drive-thrus, interiors, and ordering systems in the face of today’s pressures, and partly because the values of their businesses and real estate are at all-time highs.
Inflation is currently affecting the real estate world with unpredictable price increases. I have seen multiple price increases of 25% caused by many things including supply chain delays, labor costs and additional funding requests.
My industry colleague, Eric Wasserman of Acropolis Commercial Advisors, works closely with commercial developers and has his finger on the pulse of how today’s economic pressures are affecting real estate and thereby challenging franchise growth. Here’s what he sees:
Many restaurant franchisees who have immediate development needs as a result of their franchise agreements have chosen to partner with third-party developers. Most franchisees will go this route to obtain capital to operate, whether it is operating existing locations or acquiring additional units/networks. These third party developers are often faced with unforeseen cost increases. In return, the franchisee pays more rent at these new locations. While franchisees still get some of their capital even with a slight increase in new rent, ROI modeling and overall returns are impacted.
What was once $1.5 million now costs $2 million due to labor, product costs, approval delays, and slowdown. This creates a lot of uncertainty for the vast majority of franchise owners looking to grow and open new locations, and also causes operators to reconsider their exit strategy as store performance remains strong and the most well-funded groups have available capital to invest .
One piece of advice for growth mode franchisees is to communicate frequently with advisors and lenders and ensure loan amounts are subject to change as variables in pricing continue to cause price instability.
Likewise, franchisees must communicate effectively with their franchisors – and vice versa. For existing franchisees looking to capitalize on the market, franchisors should be interested in supporting their exit strategy and buyer verification. And franchisors need to find common ground with franchisees who are developing new locations and are striving to stick to their development plans. It may be necessary to find new suppliers and possibly build in more flexibility in opening dates.
Pete DiFilippo is a Principal at C Squared Advisors, a leading investment bank and advisory firm that helps multi-unit franchisees in the restaurant and retail industries maximize the value of their businesses by presenting end-to-end solutions and executing complex transactions. With 75 years of experience, C Squared has helped sell, buy, refranchise and recapitalize more than 10,000 franchise locations. Services include mergers, acquisitions and divestitures, valuations, private financings and recapitalizations, restructurings and ongoing financial advisory services.