1. Business Plan Basics: Projecting Startup Investment ROI
Do you know how much money you should spend on your restaurant startup? Do your investors know how long it will take to pay them back? How long will you pay interest on the loans you take out? Knowing startup investment ROI is a vital part of your business plan. If you don't know how to weigh sales against the cost to open, you need to learn right away! This guide will show you the simple formula to quickly determine when your restaurant startup will break even and how much profit you can expect each year. Understand the profit ratio that will help you tell a goldmine opportunity from a money-pit!
If you don't know the numbers, you'll likely spend too much money to open and be overly-optimistic about sales.
The number one determinant of whether you'll be able to keep the doors of your restaurant open in the first few years is the restaurant's Income to Investment Ratio. You need to give yourself enough runway to start making a profit, and that means not overspending in the startup phase. In fact, much of your early stage planning should be searching for an opportunity where the least amount of capital investment gives you access to the highest amount of sales. The rate of expected return relative to initial investment determines how faster you get paid back and when you can expect to earn a profit!
“The number one determinant of whether you'll be able to keep the doors of your restaurant open in the first few years is the restaurant's Income to Investment Ratio.”
2. Investment Ratio Measures Time
The income to investment ratio tells you how fast you should expect to get paid back for your startup investment. It's not a measure of how much money is invested; it's a measurement of the rate of return. It could be a $200,000 or $2 million investment, if the ratio of investment to income is the same, they will take the same amount of time to pay back. What we are measuring is the expected sales volume relative to initial startup cost.
When deciding how much to invest in a restaurant, it's important to project sales accurately. Find a restaurant business opportunity that will pay back on your initial investment within the first five years, or faster! If your projections show that it will take longer than five years to break even, you are making a more risky investment. Who knows what will change in the world in the next five years? Projected operating costs and sales that far in advance become more of a guess. This means that an ROI longer than five years down the road is more of a gamble. That's not sound business, and it's very risky to your personal and financial future.
“When deciding how much to invest in a restaurant, it's important to project sales accurately. Find a restaurant business opportunity that will pay back on your initial investment within the first five years, or faster!”
3. How to Calculate Investment Ratio
A 5-year return on investment with show a 1.2 income to investment ratio. To get this number, you divide your restaurant's net income by your total startup investment.
A higher number is better because it means a faster rate of return. For example, a 1.6 income to investment ratio sees your money back in about half the time as a 1.2 rate of return - only two and a half years!
That means profiting from your investment sooner as well
You'll find plenty of stories of people who opened and had to keep feeding additional money into the restaurant. Remember, it's always going to cost more than you think, so be conservative with your sales projections and overestimate your costs. The ultimate decision maker is you, the restaurant owner and how much risk you can take.
Because of the real chance of unforeseen expenses and long-term changes in the market, a higher income to investment ratio that recovers your startup capital sooner is the most immediate way to protect your restaurant from closure due to finances.
4. How to Project Restaurant Return on Investment (ROI)
- Tally up all the costs of opening your restaurant up to the first guest served
- This is your total startup investment
- Make sure to do a very diligent job of researching what all the expected costs are
- Build in a padding of 15%-20% to account for additional unaccounted for costs
- This is your Total Startup Cost
- Estimate the first year's sales as accurately as you can
- Consider making three forecasts
- A worst case scenario, an optimistic projection and an average of the two that you feel is cautiously realistic
- Use a more conservative calculation to decrease your risk
- Estimate your first year's operating costs
- Operating costs are the cost of running the business after you open. Buying food, paying rent, etc. not the same as startup costs
- Subtract operating costs from sales
- The cash remaining is your first year's Net Income
- Divide startup cost by net income to derive the investment to income ratio
- This is the projected rate of return on your initial investment
Another way to understand the income to investment ratio is to say that income is, in this example 1.2X, a little less than one and a quarter times the initial investment. If costs and sales remain constant, it will take five years to recoup the initial million dollar startup cost and begin turning a profit.
5. Learning From Big Chain Restaurants
If there is one thing the established franchises know how to do, it's to reduce risk and establish comfortable profits. They may spend 3 million on a location, but the ROI is fast. Income in the first year may be 6 million, a ratio of 2X, returning the initial investment in the first year! A big part of their model is to scout for those locations that have to potential to give the highest rate of return on investment. And now you have to tools so that you can too!
Hopefully, you're convinced that it's important to find restaurant opportunities that begin to return on your investment in the first year and take no more than five years to pay back. The keys to identifying the goldmine restaurant opportunities around you are projecting costs accurately, projecting sales conservatively, and diligent market research.