While certainly well intentioned, The PPP portion of the recently passed CARES Act, intended to be the lifeline for small businesses across the country, in reality does little to help the restaurant sector. Designed to offer short-term relief, keep employees on the payroll, pay rent and interest on bank notes and keep utility bills current, the PPP’s current structure and regulations unfortunately do not address the underlying financial hurdles facing restaurants during this crisis. Even with this financial assistance, restaurants are still struggling to find creative ways from closing their doors, most likely permanently. What is needed instead is working capital to pay vendors, retain key management, and weather the storm. Let me explain.
The restaurant industry business model is completely different from other small businesses. The profit margin is extremely low (industry average around 7%), fixed costs are extremely high, and most restaurateurs have significant bank debt incurred from the outset. Opening a restaurant requires a very high initial investment. From signing a commercial lease; remodeling existing space; installing commercial kitchen equipment, HVAC, plumbing, rest room fixtures, lighting, interior design, refrigeration systems, draft beer systems, and bar build-outs; landscaping; and signage. Few restaurant owners can fund these costs without bank financing of hundreds of thousands of dollars. If you were to build a new restaurant from the ground up, these costs are in the millions. Most bank debt is amortized over 20 years, and the payments combined with those for rent, utilities, payroll and repair and maintenance means an operation must be hitting on all cylinders to survive, much less thrive, challenging even in normal times..
The primary goal of the PPP Act was to keep employees on business payrolls as opposed to on the state’s unemployment rolls. In theory, this makes sense; in practice it is virtually impossible. Most restaurant employees are already on unemployment. Due to the aforementioned struggles of the average restaurant, owners were quick to lay off employees and did not have the luxury of waiting around for a bailout. While some of the most heart-wrenching responsibilities of an operator, it was necessary if they had any hope of making it through to the other side of this nightmare scenario. Restaurant owners are seasoned in moving quickly, adapting to changing circumstances and checking their bank accounts daily to ensure that they can cover the costs during any given week. For most of us, the writing was on the wall the moment “social distancing” became the most used words in the American vernacular. For those who did not start laying off employees then, Executive Orders from Governors across the country closing restaurants and bars started raining down and owners had no choice.
The PPP Act is designed to entice employers to re-hire employees who were laid off. While a laudable goal, it is impossible to meet in the restaurant industry. Salaried employees such as Chefs, Sous Chefs. General Managers, Dining Room Managers, and Event Coordinators, will gladly come back and be ecstatic to avoid the absolute chaos that plagues each state’s unemployment offices. With lines around the block at many unemployment offices, hours and hours on hold, and websites crashing several times a day, who wouldn’t be happy to go back to work? Tipped employees, that’s who! Imagine going through the nightmare of applying for unemployment in a week when over 6 million Americans applied, standing in line for hours, or sitting on hold for days depending on how automated your state is, finally receiving your benefits, assuming you are one of the lucky ones who made it through the process, and then being told, hey you can come on back to work now. Let’s consider your options. You can continue to receive unemployment benefits (which in Maryland had a weekly maximum benefit of $440.00 and was recently increased by the Federal Government by $600 per week for a total maximum benefit of $1,040.00 per week), self-quarantine in the safety of your own home, abide by your Governor’s Executive Order to shelter in place, and wait out the storm. Or you can go back to work as a tipped employee at a restaurant that has been forcibly shut down so there are no customers to serve and therefore tip you, violate a government mandate and risk your health? In addition, the program only lasts 8 weeks. Other than President Trump, I have not heard a single medical professional, scientist, elected official or third grade student that who thinks that restaurants will likely be open and operating at full capacity in the next 8 weeks.
I am almost embarrassed to offer these jobs back to my tipped employees! The thought of dropping their unemployment for several weeks, making half of what they are currently making through unemployment benefits, having no place to go back to work and then going through the application process all over again is perhaps the worst financial decision an employee could make not to mention the stress, time and aggravation it would create for them.
The major stipulation in the PPP Act requires that a business owner must use 75% of the loan proceeds for the re-hiring of employees; failure to do so will eliminate the forbearance provision and the loan will then amortize for 2 years in 18 monthly installments. Any balance at the end of the two-year term will be due to be paid in full on the 18th month. Herein lies the problem–the salaried employees who will gladly come off of unemployment benefits (although with an 8-week program and the likelihood of them having to re-apply in just two months may make them question the intelligence of that move) make up less than 40% of the total payroll of most restaurants. Therefore, it is virtually impossible to meet this requirement.
Provisions in the Act allow you to use the remainder of the money for three other expenses — interest on bank debt, rent and utilities. While any help is appreciated, in fact, only a small portion of the loan proceeds can be used for these expenses and that portion will not come anywhere close to covering bank interest, rent and utilities for two months. Secondly, most banks have worked out deferment packages with their clients for a minimum of 3-6 months; so, for most, not all, that is not a priority right now and they have some breathing room on their bank debt. Even if they were to pay the bank interest only, it does nothing to improve their overall financial situation and the money can’t be used for principal.
Using some of the funds for rent is a good idea, although most landlords are being forced to work with their tenants and many states have Executive Orders barring evictions and foreclosures so there are short-term protections in place. Likewise, most states have forbidden utility companies from cutting-off utilities during the pandemic, so there seems to be some breathing room on that front as well.
As currently drafted, the PPP Act makes it virtually impossible for the majority of restaurants across this country to comply with the act. This leaves them with a daunting situation. Should they take the money, knowing that they can’t comply with the guidelines, pray that the SBA will alter its guidelines down the road, roll the dice that they will not be stuck with additional bank debt only compounding the problem or even worse be in violation of their loan agreement which states “knowingly using the funds for unauthorized purposes may lead to charges of fraud” and risk federal charges, or refuse the money, lay additional employees off and perhaps close the doors.
Conventional wisdom dictates that when the doors do re-open for those fortunate enough to navigate a path through this crisis, restrictions on restaurants will include social distancing guidelines for how far apart tables and seats can be, limitations on capacity and hours of operation and expensive sanitizing and hygiene equipment that will need to be purchased. This will essentially force restaurants to operate at half capacity and earn half of their normal operating revenue. Unfortunately, rent, utilities, labor cost, food cost and beverage costs will still be 100% of normal costs. This is a mathematical formula that simply does not work and if not addressed will force any restaurants lucky enough to survive to quickly shutter the doors 30 to 60 days after reopening once they realize that they are simply compiling more debt and digging a deeper hole.
What most small restaurants really need is working capital to pay their vendors, keep key management employed, and weather the storm. The restaurant business is an industry built on 30-day credit. Most restaurants order supplies, food, alcohol, etc. sign for an invoice, sell the product to the consumer at a markup, take the payments from the consumer and then pay for their goods at the end of the month with that revenue. When that revenue gets shut off instantly without notice, the vendors get stuck holding the debt. This is a problem for both the vendors and the restaurants.
Restaurant owners need access to fast capital at low interest rates with long-term amortizations. This is the only path forward for the majority of restaurant owners across the country. Not only would this allow them to wipe out the existing vendor debt, keep key employees on the payroll to prepare to re-open, sustain losses for the first few months that they are allowed to re-open and slowly re-build their business, but it would also inject enormous amounts of cash into the economy down the line.
The average seafood company, produce company, dairy company, etc. is owed hundreds of thousands of dollars by their customers (restaurants). Their accounts receivable total millions of dollars which has in turn forced them to lay off tens of thousands of employees from those picking the fruit or butchering the meat, to warehouse workers to the drivers that deliver the goods to the restaurants each day. If the restaurants were able to borrow cash to get them paid in full, and continue to pay them as they place orders once things start to re-open, we can see a slow, but smooth path to recovery. However, if the restaurants can’t get the vendors paid in full, they will face trying to re-open with no capital to purchase goods and vendors unwilling to sell to them until their past due balances are brought current.
There are no easy answers or solutions to the problems of this magnitude brought on by COVID-19. Looking in the rear-view mirror and placing blame will do little to resolve the monumental issues facing restaurant owners at this trying time. I applaud the bi-partisanship efforts displayed in Washington and in State-Houses across the country, however brief they may be. Grants and forgiveness of loans are great and all restaurant owners would happily accept them, however providing quick, low-interest, long amortizing loans is the quickest, most fiscally responsible avenue for restaurants to keep fighting. Failing to provide these loans to restaurateurs across the nation in a short period of time will undoubtedly trigger mass restaurant closings which in turn will trigger landlords to face mortgage foreclosures, banks to face troubled debt restructuring (TDR’s), unemployment to continue to sky-rocket, ancillary businesses including farms, ranches and a myriad of other support industries to fail, and lastly but perhaps most importantly will severely impact the food supply of this country.
While multiple loan programs have been discussed and the application process launched, after dozens of hours filling out hundreds of pages of applications over the past three weeks, most business owners have yet to receive even an indication that their application has been received. With the exception of the PPP, I do not know a single small business owner that has been approved for a loan through the various federal, state and local programs.
Hopefully Congress will act swiftly and design a loan program that will actually meet the needs of restaurant owners, as opposed to restaurant owners spending the majority of their days applying for loans that will likely only compound their current financial crisis!
James J. King
CEO of Titan Hospitality Group which owns and operates 6 restaurants in the Mid-Atlantic Region. He is a former State Legislator representing Annapolis, MD.
