Growth | July 2013 | By Kevin Hardy

The New Norm

The Great Recession changed the financing landscape forever. Operators, though, are using the change to their advantage.

Papa Murphy's slowed restaurant expansion due to the down economy in 2008.
When the Great Recession slowed down bank lending, Papa Murphy’s was forced to slow down expansion. papa murphy's
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The history books detailing the recent Great Recession will include plenty of obvious chapters: the subprime mortgage crisis, Wall Street bailouts, housing bubbles, and skyrocketing unemployment. But those volumes might miss a less visible element of the economic collapse: the crippling credit market that wreaked havoc by bringing business growth to a near standstill.

As the American economy went down the tube, so did banks’ willingness to lend capital for new ventures. Those hoping to open new restaurants or invest in existing units were forced to find new funding means. Even the most credit-worthy applicants struggled to find loan approval.

The financial landscape has since eased up. Lower unemployment levels and stronger consumer confidence have encouraged banks to start lending again. But with the wounds of the economic collapse still fresh, banks also find themselves under tougher public scrutiny and heightened regulations, and they’re only offering big bucks to the surest bets.

“If you’re an established operator, it’s pretty simple to get financing,” says Dennis Monroe, a veteran in business law and corporate financing and chairman of Monroe Moxness Berg PA, a law firm specializing in multiunit franchise finance, mergers and acquisitions, and taxation. “What gets trickier is when you move down the food chain to concepts that are less known, ones that are more regional concepts or ones that are start-ups.”

Most restaurant lending is still coming from traditional community banks, as well as Small Business Administration–backed loans, Monroe says. There are, however, new avenues for funding that have sprouted from the ruins of the Great Recession; alternative funding sources, which often offer smaller loans at higher rates, have exploded in number and prominence. Operators are also testing new financing strategies to ensure sustainable growth in the coming years.

Indeed, upstart quick serves and experienced operators alike have a different financing tool set to review as they look for new ways to grow their business post-recession.

BoeFly, an online lending network that includes more than 3,500 lenders, is one new model for operators looking to borrow, allowing them to easily shop around for the best rates and terms. Co-president Mike Rozman says the most successful borrowers today are those who are aggressive about selling themselves and their businesses, and who diligently prepare financial documents, bank statements, and performance records for a brand.

“Very simply, it’s the borrower’s job to make sure that their banker feels comfortable making that loan,” Rozman says.

Experts say the franchisor should also play an active role in the financing process by selling the brand to lenders, vetting potential finance partners, and connecting franchisee hopefuls with lending sources. Strong vetting at headquarters means that those who ultimately receive corporate approval will have little trouble finding financing, says Jim Sullivan, senior vice president of domestic franchise development for CKE, parent company of Hardee’s and Carl’s Jr.

“So we know [franchisees] have adequate capital to build restaurants going in,” Sullivan says. “Those that we approve to come build restaurants should not experience a problem developing projects.” He adds that more conventional lenders are stepping back into the market, but more alternative means of growth, like build-to-suit opportunities—in which developers or landowners build a store to the operator’s specs and then the operator leases it from them—continue to emerge.

Though it undoubtedly slowed business growth, the uncertainty in the long-term debt market has actually boosted the popularity of alternative lending. Short-term lenders offer an easier way in for cash-strapped operators who need quick access to working capital, although the ultimate payback is high.

These loans are often based on a business’s cash flow, not individual credit scores. That structure allows alternative lenders to meet a need that traditional banks just aren’t equipped to handle, says Andrea Gellert, senior vice president of marketing at On Deck, which has provided more than $10 million in small loans to quick-service concepts.

She says instant approval of $5,000–$150,000 loans helps restaurants invest in equipment or facilities, filling a void in the financing market.

“We do hear from [quick serves] who are franchisees that oftentimes it’s not on the radar screen of franchisors,” Gellert says. “Often, they’re not aware of the need that their franchisees have [for short-term capital].”

Two or three years ago, restaurants sought this kind of short-term capital mostly to put out fires—replace a broken oven, cover a payroll period, make an upcoming tax payment. But lenders say most operators have moved beyond Band-Aids. They’re now looking to expand restaurants, renovate, upgrade fixtures, or add a porch or patio.

“We’re seeing a shift in the needs. The guys who have survived the past few years now have a lot of opportunity in the marketplace,” says Scott Griest, CEO of American Finance Solutions.

Instead of monthly or quarterly bills, American Finance Solutions automatically collects a set percentage of each credit card transaction at the borrower’s business. Repayments like this are easier to stomach, Griest says, because the cash is drawn before it ever hits a restaurant’s coffers.

In some cases, short-term loans can carry the costs of new growth. Capital Access Network has funded new-development costs with access to capital by leveraging an operator’s existing store volume. Depending on cash flow, the company is able to provide businesses with access to up to $150,000 per unit, meaning a 10-unit owner could access as much as $1.5 million and remit from credit card receipts at all 10 stores.

“I think in general, if somebody’s looking for $1 million to buy their first restaurant, that is a different universe from what we do,” says Diane Naczi, senior vice president for Capital Access Network. “But we have helped people who have 10 units already and they are using those units to fund the next unit.”

While many are fearful of predatory lending, Naczi says, loans like those from Capital Access Network and merchant cash advances are not like the cash advances and payday loan shops that consumers can find on the streets because businesses know their final price of repayment up front.