By Annie Gasparro
Banks are lending money at a faster pace to large restaurant
franchisees, but mom-and-pop shops with an appetite to expand are
still struggling to get the cash.
Loans to franchisees--a key source of funding that helped the
likes of Pizza Hut and Applebee's spread nationwide--fell
dramatically during the recession. "Now the credit markets are very
active again. It's a depth and breadth that we haven't seen in the
last few years," said Dave Farwell, head of franchise financing for
RBS Citizens.
Sales are rebounding in the restaurant industry, and interest
rates are at historic lows, making both bankers and restaurant
operators feel like it's a good time to grow.
For instance, Border Foods Inc., a top Taco Bell franchisee with
roughly 180 total restaurants, recently secured a $17 million line
of credit to fund remodels, new site development or acquisitions.
The loan is part of a $98 million seven-year senior credit
facility.
However, veteran small franchisees are still struggling to raise
enough cash just to meet the renovation demands of their parent
brands, said Brad Swanson, managing director of KeyBanc's consumer
& retail group.
Whether its remodeling their restaurants, like Wendy's is
asking, or investing in a menu overhaul, like Burger King recently
required, its a lot to ask of small businesses.
"There is a population of franchisees who got on board in the
'70s and '80s when quick-serve and casual dining were really
expanding, and they have a handful of units now," Mr. Swanson said.
"For small franchisees like that, a $600,000 to $800,000 remodel is
a significant investment."
Justin Trouard, a single-unit franchisee who opened his first
restaurant earlier this year, said he was shocked at how difficult
it is for small business owners to even be considered for a modest
loan.
"The big banks' requirements are ridiculous. You have to have
50% of the loan in cash and 50% in collateral," he said. "At that
point, you don't even really need a loan."
For a while, all he could find were offers for unsecured loans
at interest rates of 15% to 20%. Mr. Trouard eventually received an
offer from a local bank using an online matching service called
BoeFly, and he recently opened his Dickey's Barbecue Pit franchise
in the D.C. area.
The International Franchise Association says lending to
franchisees in general--not just restaurants--will reach its
highest level this year since the recession, lending $23.9 billion.
However, there's still an expected shortfall of $2.6 billion
between franchisees' appetite for growth and banks' ability to meet
the demand, the association said.
"We're seeing definite improvement, but we're not out of the
woods yet," said IFA President and Chief Executive Steve Caldeira.
"Their already thin margins are being squeezed by things like
health-care regulations and commodity costs, and it's making it
extremely difficult for small business owners to turn a
profit."
As a result, underperforming locations are selling out to bigger
franchisees or being bought back by the parent brands, since they
can afford to invest in improvements. Last week, a 40-unit
Applebee's franchisee, RMH Franchise Corp., bid $8.6 million in a
bankruptcy auction for 15 Applebee's locations owned by a smaller
Illinois franchisee. The deal needs approval from a bankruptcy
judge.
Mr. Farwell, of RBS Citizens, said the parent chains aren't
sorry to see some of the smaller players exit, as they prefer to
have more professional franchisees that tend to uphold brand
standards better.
"It takes a higher level of sophistication to run these chains
than it did a few years ago, so I think the consolidation will
continue," he said.
Krispy Kreme Doughnuts Inc. (KKD), which is returning to
new-store growth in the U.S. after a decade-long lull, said it's
looking for multi-brand, experienced franchisees to lead its
expansion. "You still may see some smaller players, but we're
looking more for people with more flags in their hat," said Chief
Financial Officer Doug Muir.
However, other brands, like Subway, whose sandwich shops are all
franchised, still see an opportunity among new and smaller
operators.
Subway tends to attract smaller franchisees since its menu is
relatively simple and it requires less capital to open a store.
They are even helping franchisees expand. "In 2008, lending
tightened up, and it got harder to get access to capital," Chief
Development Officer Donald Fertman said.
To help, Subway began hosting forums for potential lenders, to
instill confidence in the brand. "We just held another one
recently, and I think it's helped our franchisees have more success
at continuing development than other chains," he said.
The chain even surpassed McDonald's in the number of locations
it has, now boasting 39,500 worldwide compared to McDonald's "more
than 34,000."
Write to Annie Gasparro at annie.gasparro@dowjones.com
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