Buying a licensed premises is a dream for many in the UK, but thoughts of the possible problems and fear of the unknown put off most. How- ever, while a commercial mortgage is usually a greater risk than a residential one, a growing number of borrowers are doing just that and enquiring about buying a pub.
There is a growing number of pubs and bars on the streets of the UK and little sign of this slowing down. Since 1989, when there were around 60,000, the number has grown to over 62,000. More significantly for intermediaries is the fact that, in the same period, ownership of Britain’s pubs has gone through a complete volte-face.
In 1989, the big breweries owned around 75% of all licensed premises. Today, around 80% of bars are independently owned and run, although in many cases ‘independent’ means ‘large independent with a chain of units,’ but there is plenty of scope ‘ perhaps more than ever ‘ for the individual entrepreneur to run a successful pub.
Backing the new Branson
So as an intermediary, what should you do if a budding entrepreneur walks through the door and enquires about financial backing?
The first thing is to ensure you are in a position to offer some form of advice, and so, at the very least, intermediaries should be aware of the specialist lenders prepared to offer commercial loans for licensed properties.
When approached with such applications, specialist lenders will need to work out the key indicators as to the borrowers likely success. To be able to give some initial advice, it is worth knowing what these are.
A lender will want to know the trading history of the prospective bar, if it has one. This is important because, in most cases, it will offer a reasonable guide to its future prospects.
The lender needs to establish whether the business can support the mortgage requested. While a poor history may not necessarily kill the deal at this stage, it is an important question that will require convincing answers from the applicant. For some, the very fact the pub appears to have been under-performing may be one of the attractions. Many will feel they can improve things by extending opening hours, providing food and improving fixtures and fittings.
But the lender, while supporting such ideas in principle, will want to know why the existing owner did not adopt similar measures. The lender will also look at the pub’s trade mix ‘ another good indication of future potential.
A second factor is the applicant’s previous experience. Not everyone is capable of running a pub, and experience in the trade, whether as an owner, tenant or employee, will be a useful indicator of future success. It may not be enough to have an enthusiastic proposition if there is little indication that the client will be able to manage a bar. Evidence suggests entering into pub ownership without experience is high-risk and certainly inadvisable as far as a poorly performing unit is concerned.
The applicant’s cash stake and back-up resources are important to lenders too. Ploughing all available wealth into any business ‘ with nothing for contingencies ‘ is inviting trouble, and is unlikely to be supported by a prudent lender. Success behind the bar is as much about cashflow as draughtflow, and someone who shows an understanding of this fact before committing is more likely to succeed once they do.
The location of the property in question is another key factor, although many lenders will not accept pubs as security at all ‘ another good reason to deal with specialists who understand the client’s aspirations. Their knowledge and experience will smooth the path of the application, enabling an early decision and also, at a later stage, a level of expertise to come into play should the account hit problems.
Both applicants and intermediaries should consider the possibility of failure and whether the lender will work with them in difficult times, or prefer to repossess a vacant unit with no consideration for protecting the goodwill fundamental to the re-sale valuation of the business.
Finding the right deal
If the client can meet the above criteria they will then need to consider mortgage options. While it will partly depend on how good their case has been, the bottom line is any property purchased for commercial use should be subject to a commercial mortgage ‘ not a residential one. That means there will be some negotiating to do before the deal is settled.
With pubs there are four basic acquisition scenarios. A good pub with an experienced applicant; a good pub with an inexperienced applicant; a poor pub with an experienced applicant; and ‘ unlikely to be viable ‘ the combination of a poor pub and an inexperienced applicant.
The first will attract the highest value loan ‘ about 70% of the going concern value of the business, or 90% of the forced sale value, whichever is lower. The next two will generally attract a loan between the above and 75% of the residential bricks and mortar value.
Rates tend to be negotiable and will range from the finance house base rate plus 3.5% to Libor plus 2.5%, depending on the loan to value and the strength of the application. Fixed rates could be offered for larger exposures. The term will typically be negotiable up to 25 years.
It is usually the case that the rate will be higher than for a residential loan, because the risks to the lender are greater. If a business collapses the market for re-sale is much smaller than for residential property ‘ and if it does fail there may not be much left to sell. Lenders look for strong repayment cover, based on the size and quality of business and the mix of trade.
As security, most lenders require a full first legal charge over the pub property freehold, and an assignment of the goodwill of the business. Corporate borrowers will also be asked for a floating charge and personal guarantees.
As an alternative to a commercial mortgage some potential pub managers choose a brewery loan. However, this has downsides, including having to pay more for beer from a designated supplier, and the obligation to put down cash ‘ perhaps £5,000 or more ‘ as a brewery bond until the end of the agreement.
Location, location, location
If your client has not yet begun the hunt for the perfect pub, they may yet be disappointed. The ideal unit can be difficult to find, and a degree of compromise is usually inevitable. The buyer should be careful not to abandon too many dreams, however ‘ the driving forces of their decision to go into the pub trade ‘ because if they lose these things, they may also lose their inspiration.
Most leads for buying a pub come from business transfer agents and trade publications, like The Publican and Dalton’s Weekly. But predicting how much the client can expect to pay is a lottery. Prices vary from below £100,000 to more than £1m, depending on factors such as location, type of business, type of property, mix of trade and profitability ‘ not to mention the client’s negotiating skills, and the business valuation required for the mortgage.
If refurbishment is required, most lenders will consider contributing ‘ much as they would to business expansion costs. But in most cases, bridging facilities will be needed, as the portion of the loan to cover these expenses will be held back until work is completed. Lenders will also expect the applicant to justify both the request and the spending of funds, taking the view that expenditure on premises should be related to increased income and profitability.
Above all, a good lender will want to satisfy themselves that the business ‘ and applicant ‘ will be able to maintain the mortgage payments. The property is important, but only as a secondary matter, with its potential value to be relied upon only in adversity as a last resort.
Making a success of running a pub business is a challenge at the best of times, and getting off on the right financial footing is a crucial ingredient in making it happen.
If a prospective pub owner walks through your door, the fact they are seeking advice at this stage is a good sign. Giving outline guidance, along the lines discussed in this article, will help build their confidence that you can help. And referring their enquiry to a specialist lender who can contribute knowledge and experience to their decision will ensure confidence is ‘ like all good excuses for answering the call to the nearest bar ‘ entirely justifiable.
Andrew Turzynski is product manager at First National Commercial Mortgages
80% of licensed properties in the UK are individually owned and run.
Lenders will want to know the trading history of the applicant and the bar.
Most lenders will demand the first legal charge on the freehold and an assignment of the goodwill of the business.