Restaurant Letter of Intent (LOI)

Communicate Each Point Clearly

Let’s take a look at a sample letter of intent from one of my deals, so we can understand what’s in it. It’s important to educate yourself and knowing the details of your LOI will help you to weed out the attorney’s that may not know the basic terms we use in the restaurant industry. This was a deal I had to walk away from because the numbers were ridiculous and the rent was about $12k a month. We’ll talk more about budgets and what are good numbers later on. I’ve also listed other terms that I’ve seen in the past that may not be in this LOI.

 

sample restaurant letter of intent LOI

Most LOI will be written the same way and there are definitely items that can and must be negotiated before the first draft of your lease.
Location: Make sure your location is clearly stated. If there is a unit or location number, make sure it’s listed in the LOI. I can’t tell you how many times this was “mistakenly” changed. I’m sure it’s an honest mistake, but just double check it.

Size Matters

Yes, size does matter! Don’t accept anything smaller or bigger than your needs or budget can fit. If the space is too small it can hurt your business especially with seating, if it’s too big it can hurt your bottom line adding to your rent.

Permitted Use

Make sure you have exclusivity on the products you’re selling especially in a mall. I’ve seen coffee shops literally open yards away from each other. You want to be the only game in town. Also, you don’t want to start selling an item only to have the landlord state another tenant has exclusivity. Make sure it’s clear what you’re selling.

Letter of Intent Terms

If you’re opening in a shopping center make sure to get 10 years on your lease with an option for 5 more years. Also, make sure you have a way out of the lease if you’re opening in a mall or shopping center. You never know how things are going to go. The economy might fall apart or the shopping center’s main road is going to be repaired and access to your location is nearly impossible or the anchor store the mall promised would open decides not to and now there is no traffic coming to your location. These are things you need to consider, so make sure there is an out. Make sure there is an option on a 10 year lease; for example, tell the landlord you want a 5 year lease with an option for another 5 years. If you’re not doing well within a few years of opening, then you always have an opportunity to leave before the next 5 years begin. With a good attorney broker you may be able to pull out in less than 5 years with a very small penalty. We’ll discuss this more when we get into the “Good Guy Clause”.

Minimum Rent

Don’t go for anything that is going to be more than 10%-15% of your gross sales, the smaller your rent the bigger your bottom line. In this deal the “BASE” rent is $120k a year, this means I need to sell $1.2 million dollars of food a year. I’m a small to medium size restaurant, and my CPA projected about $600k in gross sales for this location. This was based on the traffic, the economy, the uniqueness of my food, and location. My rent “ALL IN” should be $60k half of what was being offered in this deal. That is $5,000 a month. This means, I should be selling a minimum of $50k a month in gross food sales.

CAM

Common area maintenance charges. Although it’s not mentioned in this “LOI”, it is a very common practice and this is the amount that will add to your base rent. CAM charges are additional rent, payable on a per-square-foot basis, based on the tenant’s share of the rentable area. CAM charges can add a significant load to the base monthly rent expense. I’ve seen deals where the CAM was set anywhere from $3.50 to $35.00. Let’s do the math on the LOI above to see the ridiculous numbers they offered us at this location. In this case, they wanted $25.00 per square foot per month for premises consisting of 144 square feet in addition to the $120,000 base rent, $2,000 for real estate taxes, and another $2,000 a year for their marketing fund, during the term of the lease. It was a sucker’s deal and I had to walk away. Interesting enough, they would call me a few months later to accept my offer, but that ship had already sailed I was on to the next deal.

TIP: Try to have your attorney/broker negotiate an annual cap on increases such as 100 percent of the amount of the previous year’s CAM charges.

Percentage Rent and Breakpoint

This will vary for each location. Some ask and some don’t. The trick is to make sure that the break-point is unobtainable; for example, I know I’m going to sell max at my location $600k, so I’m going to make the break-point after $700k. Don’t over inflate the number because the landlord will expect a higher rent. It’s hard to negotiate your rent when your break-point is too high. The idea is that the landlord will get 10% of every dollar over $700k in addition to their rent!

Trash Removal

Not a big deal and it’s usually very low and you want this if you’re in a mall. If you’re in a shopping center they will add it to the CAM (Common Area Maintenance).
Real Estate Taxes: You got to pay it! Let your financial advisor look into it to make sure it’s fair.

Marketing Funds

Don’t pay it! You’re paying enough in rent; in fact, all the tenants are paying rent and some are paying this marketing fund too. You must advertise your own restaurant outside of the mall or shopping malls advertisement.

Merchant Association

Don’t pay it. It’s the mall’s expense not yours’.

Personal Guaranty

It’s not on this LOI because my attorney fights hard not to get me to personal guaranty anything! Don’t get me wrong, we don’t’ always win this fight, but my guaranty at most would be 1 or 2 years. When I first started on my own with no help or advisors, I was signing it for 5 or more years (Learning Pains!). If you, as tenant, take title to the lease as a corporate entity, which is often the case for liability, tax or other reasons, you should expect the landlord to insist that each significant owner of the underlying entity sign the lease as a guarantor, ensuring that it will not be left with an “empty shell” as the only thing to chase if the tenant fails to meet its lease obligations.

Condition of Space

The landlord will want you to take it as is. The only time I would take an as is location is when it’s a lipstick job. Meaning, all I must do is paint it and dress it up and I’m good to open; unfortunately, I haven’t found many of these lipstick operations. Typically, I will ask for development money since I don’t own the real estate why am I going to build out and fix a restaurant that I may not have for more than 5 or 10 years? As soon as I’m gone, the landlord has a developed location for the next guy and that guy might just get the lipstick location I leave behind.

Development Money or Tenant Allowance

Development money can come in two forms. I ask that the landlord give me anywhere from 25% to 30% of my cost to build out the location at the end when I open and all releases from my general contractor are submitted and cleared by all sub-contractors. We will spend time in later chapters on general contractors, sub-contractors, how to protect yourself, and not get stuck with liens on your property. The other way to get development money is to have the landlord build out 25% – 30% of your store. I highly recommend you go with the first option. It gets messy when the landlords general contractor and your general contractor should make that transition, so you GC can finish out the build out. The other issue is that your landlords GC may not really understand your vision and the outcome may not be what you expected.

Extension Terms

Extension terms, often referred to as option or renewal terms should be negotiated upfront. Many leases include an initial five-year term and two successive five-year extension terms. Knowing that you’ll be able to keep the space (at your option) for up to 15 years is money you need in the bank before expending the capital necessary to open the business. Normally, rent and CAM terms for the renewal terms are negotiated upfront, as well, but sometimes they state vaguely that they will be “90 percent of the market rate for comparable buildings in the same geographic area.” Nailing down specific terms upfront is a better idea unless you expect rents to drop.

Free Rent During Build Out

The last two items on the LOI above may vary. When it comes to opening a kiosk, inline store, or shopping center location make sure you ask for 9 months of free rent during the build out phase. Our restaurant typically when done by a very competent GC will only take 3 months, I got stuck once with a store that took 11 months to build out because the county kept screwing us and I wound up paying 5 months of rent and no store. I was fortunate to have other stores running and operating, imagine that being my only store. I would have been out of business quickly! Chances are you won’t get 9 months, but you may get 6 months. If you open in 3 months, that will make a heck of a difference those 3 months you’re open with no rent to pay.

Security Deposit

I’ve been able to get away with one month’s rent and it’s usually used for my first month’s rent. That’s not every deal, but my Attorney/Broker is highly skilled in getting incredible deals.I think it’s very clear that you need a very good real estate attorney that can double as your broker to negotiate the LOI, familiar with the restaurant industry, and has done these deals before to insure you get the best deal possible. Every LOI is different and there may have been some terms I missed, so make sure you seek out the advice of your attorney before getting into any deals. As I mentioned before, a good real estate attorney that’s been in the game for a long time will also be able to broker. After the deal is brokered, and an LOI is issued, your attorney already familiar with the deal now can review the lease to make sure everything is in order and the items in the LOI match the lease.

Personal Guaranties and Good Guy Clause

As we read earlier, Landlords will often ask for a personal guaranty from a business owner, and may refuse to rent the space without one. This is a large risk for small restaurant owners especially when the company provides the sole source of income. If the restaurant cannot make enough money to meet its expenses, it is unlikely that restaurant owner will be able to make the rent payments. Thus, the only escape may be to file for personal bankruptcy protection; however, some landlords will include a “good guy clause” in the lease. If a business needs to terminate a lease early, the landlord will not enforce the personal guaranty as long as the business has vacated the premises and has paid all rent up to the date of termination.

This clause can allow the business owner a “way out,” and may dodge having to declare personal bankruptcy. Be sure to read the good guy clauses carefully, as some will only allow you to get out of the personal guaranty if your company is going out of business. Transfer/termination: Assigning the lease is an important clause to have in your lease agreement. You may want to resell and make a big profit on your very successful store or maybe you want to move; in any case, you will need to be able to transfer your lease. Make sure you have the right to assign the lease, sublet all or part of the premises or give notice that you are terminating the lease without breaching your contract. Your landlord won’t be happy about this, so make sure it’s clear and upfront.

Sublease/assignment

An assignment permits you to transfer the remainder of your interest in the lease to another party, whom the landlord accepts as the substitute tenant. Getting your landlord to agree is another issue. Be careful when negotiating this portion of the lease and consider including a provision that allows you as the tenant to get out of future liability by paying an agreed lease termination fee. A sublease permits you to act as a sub landlord and re-lease the premises to a third party. This is unlikely in the restaurant business, yet I’ve seen some strange things in this business. I’ve seen a pizza shop sublease a portion of their space to a coffee shop. It was about 200 sq. ft., and they sold espresso, latte, and other coffee type items.

Extension Terms

Extension terms, often referred to as option or renewal terms should be negotiated upfront. Many leases include an initial five-year term and two successive five-year extension terms. Knowing that you’ll be able to keep the space (at your option) for up to 15 years is money you need in the bank before expending the capital necessary to open the business. Normally, rent and CAM terms for the renewal terms are negotiated upfront, as well, but sometimes they state vaguely that they will be “90 percent of the market rate for comparable buildings in the same geographic area.” Nailing down specific terms upfront is a better idea unless you expect rents to drop.

Expansion Rights

If you have any reason to believe that your business will expand and the premises that you have leased will become too small for your purposes, you should consider negotiating for a first right of refusal to lease space adjacent to yours if and when it becomes available. Seek the terms of the newly added space be on terms at least as favorable to you as those you already lease.

Lease Terminations

Sometimes, things just don’t work out. Your business just isn’t making enough money to continue the daily struggle. You could breach your lease, in which case the lease will likely find yourself in a lawsuit or you could take a smarter route and approach your landlord with an explanation of what went wrong and have your attorney/broker offer a fair plan in hopes that the landlord will be willing to terminate your lease or otherwise help you. Doing so gives the landlord a chance to find a new tenant, which may mean less from you in termination fees and other damages the landlord may seek to collect.

Transfers by Landlord

Just because you started out with one landlord and built a very strong relationship doesn’t mean that landlord will be there throughout your entire lease that’s not usually how it works in the world of commercial real estate. At some point, the landlord will find a better opportunity or someone will offer to overpay the landlord for its interest in the center and the landlord will sell, leaving you with a new landlord. The terms of your lease won’t change, other than perhaps by way of a letter that notifies you of the ownership change and asks you to send your rent to the new property manager.

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