Coming to Terms: Understanding the Concepts, Provisions, and Terms of Your Lease Is a Key to Restaurant Profitability

The terms of a lease can make or break a new restaurant concept, yet many startup operators do not understand their implications and consequences. Location is one of the aspects of a new restaurant that cannot be easily changed, and once you sign the lease it is often difficult, if not impossible, to negotiate better terms.

The more you know about restaurant leases going into this process, the better you can work with your professional advisers -- including your accountant and attorney -- in securing the best arrangement for your business.

Rule of Thumb

A good lease should cost no more than 5 percent to 8 percent of annual restaurant revenues. Most experienced operators understand this and aim to find a location that will work for their concept and stay within the projected budget.

Usually, the trouble with a lease begins when forecasted revenues for a site location are overly optimistic, or the operator does not have enough experience to understand that a lease will not work for a particular restaurant.

To demonstrate this idea, let me relate two very different scenarios. First, recently, I met with a group of restaurant owners. I was referred by the banker who had financed the restaurant a year earlier. He expressed his concern over the financial reports he had recently received. He became more concerned when he noticed recent overdrafts on the checking account.

Upon meeting with the owners at the restaurant, it became obvious that the lease was a problem. The annual rent expense represented nearly 22 percent of revenues. Though the owners were not inexperienced in the restaurant industry, this particular restaurant concept was new to them and they weren't advised by any of the professionals they hired that the lease was too expensive. The short-term outlook for their restaurant appeared rocky until the terms of the lease could be modified.