Restaurant Cap Rates

[Gobears81]

All

I am doing an appraisal of a small restaurant building. There are a number of factors which make this an odd property. In the past, I have seen some consistency on what these properties sell for relative to gross sales, although this property appears to have a higher than typical margin. What is your experience in restaurant cap rates based on NOI (produced from operations, not a lease)?

Thanks

 

[NachoPerito]

We haven't used that method before, but we will often relate the gross revenue to the market rent as a test of reasonableness to make sure the current tenant could afford the calculated rent. Estimating a cap rate from operations NOI..... would be difficult to allocate business value.

 

[Michael S]

No experience in going concern appraisals and I haven't seen any sales based on that. In general the sales to rent ratio for a restaurant is 6-10% (and typically 7-8%). So if you have sales of $300/SF rent should be $18 - $30/SF. Cap rate could be from 5% for a corporate QSR to 10%+ for a mom and pop operation.

 

[nstanbru]

Is this building on a percentage lease?

 

[Gobears81]

Nacho/ Michael-I've historically done something similar to what you mentioned. In particular, evaluate market rent based on comps and compare it to gross sales as a percentage for rent.
Nstanbru-No, it is owner occupied.

Guys, I haven't told the whole story and with my worries of confidentiality, I am a little hesitant to say much more. But, I am in receipt of the gross sales, and they don't support project costs based on rents determined from typical sales percentages. It is a quite unique property, and the business has a higher margin than say, an Arbys. I am mainly trying to add support to my valuation approaches since there isn't a lot of great data on like-kind properties. I have support for, say, a 7-8% of gross sales percentage on rents, but I didn't want to blindly go higher without support.

Just realized that I put this in the review forum-apologies.

 

[Terrel L. Shields]

Sounds like there is an element of the blue sky...perhaps the margin relates to the reputation of the cook/etc? I saw an old fashion "Tasty Freeze" type sell years ago for more than the place would cost to build new and it was not in a particularly good location, but it had a 50 year reputation under one management and drew the retro 50's crowd for old classic cars drive in, etc. and the burgers and shakes were exactly the same as in the 1950s. It was ran by a father, then daughter and finally sold for a premium and the place is still going 10 years plus after.

 

[Michael S]

Among net leased restaurants I haven't seen higher retail sales make much of a difference, unless it results in higher rents. There are certain economic principles that don't matter if you're got a McDonalds on Times Square or a burger shack in the middle of nowhere. Rents are a function of sales, and sales are a function of location and brand/reputation. A Cheesecake Factory will do $10 million+ in sales while an Olive Garden in the exact same location may only gross half as much, and an Applebee's or Chili's even less. McDonalds has typical sales of about $2.5 million while Burger King is closer to $1.2 million.

A location and/or brand that is above-average should be able to afford higher rent due to their higher sales, and thus should sell for a higher price. How much depends on the type of buyer. A net lease investor choosing between a Burger King with sale of $1.5 million and one with sales of $1.0 million would probably pick the former assuming all else equal. However, if the former were listed at a 5.5% cap rate instead of a 5.75% would those higher sales (and presumed lower risk of the tenant going out of business for lack of sales) get them to pay any more? Probably not assuming the same credit (corporate or the same franchisee).

 

[Michigan CG]

................Just realized that I put this in the review forum-apologies.

I moved it for you.

 

[DREA Dean]

I'm a little confused as to whether the OP is trying to arrive at a business value or a real estate value. If real estate, I wouldn't be capitalizing the business income at all. I do, as others suggest, look at gross business revenue compared to rent as a test of reasonableness for contract and market rent (ie does real estate rent represent approximately 6-10% of business revenue), but I wouldn't be capitalizing business revenue (either gross or net) unless I was arriving at business value. I often look at business value when appraising hotels, campgrounds, car washes and the like, but not usually restaurants, as it is possible to find real estate rents for restaurants, as opposed to these other property types.

 

[Elliott]

Some old MAI once said, "Don't invest in any real estate where people eat or sleep." I'd guess most restaurants are in arrears in their payroll taxes. I vote for a high cap rate.