Invest in restaurants. It's big money

Equity, debt and art are there, but the high margin restaurant business is getting more professionalised. Investors don't just want to eat at their restaurants, they want to own them too.

"I will have 25 per cent of the restaurant and garlic bread on the side" is not likely to raise as many eyebrows as you would imagine. Increasingly, the trip to a restaurant is not just about tucking into your favourite dish, but also about owning a part of the restaurant and diversifying your portfolio.

Eating out has become de-rigueur and the restaurant trade is seen as the next big story. Savvy investors, especially those who are also food enthusiasts, are snapping up stakes in their favourite restaurants faster than you can say lasagna bolognese.

The trend of investing in restaurants began less than ten years back. The early converts were celebrities and P3 inhabitants. Restaurant openings got expansive write-ups and many saw this as a way to garner some free publicity. But with more urban Indians eating out, returns touched 30 per cent a year. Now, a restaurant in your portfolio is not just an affirmation of your presence in the swish set but also a wise money move.

High networth individuals who have optimised on their equity and debt portfolio and bought all the art they wanted, are now looking at unorthodox investment areas. Restaurants, antiques, vineyards and coffee plantations are becoming part of asset portfolios of the very wealthy.

Restaurants today are professionally run with transparent accounting procedures. Angel investors are thronging to grab a piece of the pie. Well-run, standalone restaurants make sound profits and parking a part of your portfolio in this business is an ideal asset diversification strategy.

The trade

The restaurant in a five-star hotel might be a fine dining experience and the roadside eatery a quick place to grab a bite, but when it comes to investing your money, the standalone restaurant is where you should look.

Broadly, a restaurant with less than 40 covers (or one that seats 40 people at a time) is classified as a 'small' restaurant, 40-80 covers is medium-sized and over 120 covers is large. This classification can vary from city to city.

In Mumbai and Delhi, where rents are high and space is at a premium, a 40-seater could cost as much as a medium-sized restaurant in Bangalore or Ahmedabad.

Setting up a small restaurant costs approximately Rs 15-20 lakh (Rs 1.5-2 million), while a medium size one costs about Rs 50 lakh (Rs 5 million). This covers interiors, furniture, staff uniforms, crockery, cutlery and kitchen equipment.

How to invest

Passion for food is a good enough reason to be an angel investor in a restaurant. Like Devjani Pillai, who had no restaurant background and no prior experience in investing in a restaurant, but missed having authentic Bengali food when she moved to Bangalore to be with her husband.

She teamed up with the partners of a Bengali restaurant in Kolkata and brought 6, Ballygunge Place to Bangalore, with an investment of Rs 500,000 each. Business is booming and she is investing in two more restaurants in the city.

It helps if you invest in a restaurant that is run by someone you know. This is a very hands-on business and one of the partners should be completely devoted to the operation of the business. So, if you are going to be an angel investor, then park your money only if it is run by one of the owners and you have faith in their operational expertise.

Unlike the west, there are no advisory or consultancy practices in India that focus on the restaurant trade. The sector is still largely unorganised and word of mouth is your best bet to find out if a restaurant is looking for funds or a partner.

"We have patrons who love our food and have seen the consistency of our quality and who approach us with the intent of investing in our business. A lot of people are providing seed capital to restaurants," says S. Ramani, who runs a chain of restaurants in Kolkata and Bangalore.

Typically, restaurants that are doing well would need additional funds to open a second branch in the same city or diversify into other cities. The format of a successful restaurant can easily be mirrored and local tax structures give additional incentives to branch out.

Restaurant owners usually find it difficult to get term loans from banks, and it is an accepted practice to take on partners.

So, the next time you go to your favourite restaurant, there is no harm in asking to speak to the owner and broaching your interest in investing in his business. Even if he is not interested, he would know others in the industry who are looking for partners and spread the word around for you.

Returns

On an average, a restaurant grosses between 28 to 35 per cent returns annually. A well run operation, where costs are kept low, can gross even up to 50 per cent, according to industry sources. Average net returns are 14-18 per cent, says Ramani.

Operationally, most restaurants make money. If the capital expenses have been very high, then your break-even period could get pushed back a little. Most reasonably run restaurants should break even in the first 12-18 months.

Indirect returns from this investment are also significant. "My entertainment expenses are considerably reduced because of my catering and restaurant business. I do entertain outside my restaurants at times, even so, total cost of entertaining is significantly lower than what it would have been, had I not invested in the restaurant trade," says Prahlad Kakkar, professional filmmaker and passionate restauranteur.

Also, a good restaurant is a great place to network. "You attract many like minded people to your restaurant. They (these customers) then start owning the restaurant and begin referring to it as 'our restaurant'. I have had such good times running my restaurant and the goodwill I earned, especially from investing in Prithvi CafÈ, was enormous. Not to mention the fact that it was great PR, and helped me cultivate my public image," adds Kakkar.

Risks

While it is true that more restaurants die than live, experts say that the ones that die are the ones that never had a chance to survive. Many things can go wrong with a restaurant. But most of these flaws can be fixed at the planning stage.

Overpricing is the number one killer. The second is poor control and mismanagement. This is why it is important to work with someone who knows the business and not just team up with a few friends, none of whom have any idea about running a restaurant, and hire a manager to do it for you.

If you are taking an existing restaurant format and opening a branch in a different city, then it is important to understand the demographics of your new customers and price your menu accordingly.

As an angel investor make sure that you are convinced about the business plan. Eat at similar restaurants in the city and give feedback to your business as a customer. Look at pricing and marketing plans, check out the quality of the food and service. Once you are convinced about all these, you can be hands off and leave the operations to your partners. Do visit as often as possible, so that you can pick up any slip-ups in quality.

With more Indians travelling abroad and sampling international restaurants and cuisines, they are ready to experiment with their food. All this bodes well for the industry and your investment. If you have a product that scores 7 out of 10, you have a hit on your hands.

"It is like any other business. You have to control your costs and run a tight operation. If you manage to keep your prices down and your employees' hands off the till, that's half the battle won," says Kakkar.

Time spent

You can choose to be a partner who is involved in the operations of the business or one who only wants to see the profit and loss statement every quarter. If you fall in the first category you reap additional benefits of networking, making friends and ensuring that your money is well invested. If you are investing in the business only for the 20 per cent return that you expect it to give then you can be just an occasional diner.

Exit routes

With the current boom in the trade, chances are if you have found the right restaurant to invest in, you have very few reasons to want to exit. The restaurant industry is looking to hit the stock market as well, and several large ones are planning IPOs of their own.

With retail continuing to be the flavour of the stock markets, restaurant business would be the follow through to the spate of multiplex IPOs that the markets witnessed in the last year. "There are various line expansions planned like ready-to-eat meals. We are planning an IPO to fund some of these plans," says Ramani.

Selling your stake in the market once the restaurant goes public is the first exit route for the angel investor.

If the IPO route is not one that your partners want to take, there are many people waiting to lay their hands on a thriving business. Once you pass the word around it is easy to find interested parties to sell your stake to.

If the restaurant is doing well, chances are the other partners will buy out your stake. They can then decide to increase the valuation of the restaurant and invite interested parties to become prospective partners.

It is a fairly easy to exit from business, provided it is a clean one, according to industry experts. Traditionally the finances behind the restaurant trade have been a gray area, with a mixture of white and black money.

With more and more professionals entering the business, this is changing and investing and accounting are becoming increasingly transparent. So if your restaurant is run on legitimate money, then your exit route is a simple and clear one.

If dubious accounting has been a norm, then it might be difficult to untangle your investments. This is why it is important that you know your partners well and take time out to assess the financial and business plan of the restaurant before you commit your money to it.

The worst-case scenario is also worth considering. Standalone restaurants that fail to capture an audience are usually shut down. Like any business, the assets are sold and the partners share the remaining consideration in a pre-decided ratio.

If you want to exit your share of the business while the others want to continue with it, then you can either sell your stake to a third party or to the existing partners. Ensure that the initial partnership deed or memorandum of association spells out possible exist routes including selling off to a third party.

Unless your restaurant is a disaster from day one, chances are you will not lose all of your investment. Restaurants usually manage to cover operational costs. If you wind up the business, the sale of furniture and fixtures would help in recovering some of your investment.

The restaurant industry in urban India has metamorphosed in the past decade. From coffee houses with capped waiters in khaki to champagne brunches with a five-figure price tag, restaurants and restauranteurs have taken a giant leap forward.

Over 8 per cent GDP growth, IT, BPO and stock market millionaires only spell better times for the restaurant trade. If you have the taste for it and the money to spare, go ahead, get your name engraved on a menu card.

Topping the US Charts

The restaurant business is proving to be a big boy in the corporate world. Here are three that made it to the Fortune 500.

McDonald's was a hamburger stand in California, until Roy Kroc - a distributor of a milk shake making machine - heard of it. The stand was running eight multimixers at a time and Roy Kroc suggested to brothers Dick and Mac McDonald that they should open more restaurants so he could sell eight multimixers to each of them.

In 1955, Kroc himself opened the restaurant, under the brand name McDonald's. In 1965 McDonald's went public and listed on the stock exchange. A hundred shares costing $2,250 that day would have multiplied to 74,360 shares, worth over $2.5 million on 31 Dec, 2005.

In 1985 McDonald's became a part of the Dow Jones Index. Its earning per share is at $2.218. It listed at $33.94 in 1970 on the New York Stock Exchange.

Starbucks when it was first opened in Seattle in 1971 by three partners - English teacher Jerry Baldwin, history teacher Zev Siegel, and writer Gordon Bowker - was called Starbucks Coffee, Tea, and Spice.

Each had invested $1,350 and borrowed another $5,000 from a bank. The store sold only coffee beans and equipment and it was only when entrepreneur Howard Schultz joined it in 1982 that he suggested selling espresso and coffee drinks.

The original owners rejected this idea, but later sold Starbucks to Shultz's company. It went public in 1992 and listed at Nasdaq at $21 per share. The company's revenues have grown from $465 million to $6.4 billion in the last 10 years. Starbucks currently has a market capitalisation of $23.53 billion. Its earning per share is $0.72 and return on equity stands at a frothy 23.88 per cent.

Darden Restaurants, Inc. is the world's largest casual dining restaurant company. Bill Darden started his first restaurant over 60 years ago and today the company has over 1,400 restaurants, employs 150,000 people and serves over 300 million meals annually.

It listed in the NYSE in 1995 and now commands a market capitalisation of over $5.41 billion. The earning per share of a Darden stock is $2.15. The stock listed in the NYSE at $10.22 and is trading at $37 today.