How to Invest in Restaurants: Convert Those Donuts to Dollars
If you ask me, nothing personifies the post-COVID restaurant industry better than Taco Bell’s new drive-thru.
This hovering, burrito-filled bank branch just goes to show how modern trends and consumer preferences are forcing big changes in the sector.
And where there’s change, there’s opportunity.
But where should investors start looking? How do you invest in restaurants? And considering how overall sector performance remains erratic, how can you hedge your risk?
Moreover, should you bother investing in restaurants at all?
Let’s dive into how to invest in restaurants in 2022.
The Short Version
- The Restaurant Performance Index (RPI) shows a slow recovery for the restaurant sector after the grim pandemic years. This may create opportunities for investors to fund seed rounds, crowdfund, or buy stocks and ETFs.
- However, short- and long-term trends like inflation, the labor shortage, and supply chain hangovers create huge risks — as does the reality that 80% of restaurants fail within five years.
- For that reason, cash, passion, and a high risk tolerance could be considered prerequisites to restaurant investing.
Invest in Restaurants Directly
Your first option for investing in restaurants is to go the old-fashioned route: hear a pitch and cut a check.
By playing the role of the angel investor, you can get in early on a promising restaurant concept, capture a double-digit equity stake, and take a much larger share of the (potential) profits later.
Angel investors typically find opportunities in one of three ways:
- Friends and family;
- Word of mouth from other investors; and
- Through incubators.
For example, let’s say you’re an accredited investor looking for a hot investing opportunity in the Boston restaurant scene. You might join an angel investing network like Branch Venture Group and start flipping through pitches and business plans.
Naturally, angel investing isn’t for everyone. To do it right, you need passion, patience, and huge piles of cash since a common solicitation might be $100,000 for a 10% to 20% stake.
And considering that 80% of restaurants fail by year five, pouring too much capital into a single opportunity might be devastating to your bottom line.
But it’s an option nonetheless and may be a fit for the restaurant lover with institutional knowledge and capital to spend.
Restaurants are risky business >>> Risk/Reward Ratio: What It Is and How to Calculate It
Pros and Cons of Investing in Restaurants Directly
- Get in early — Angel investing in restaurants can be exciting as you join incubators, hear pitches, and support a promising new concept from the ground up.
- Own real equity — The amount of equity you can secure at the seed stage can be enormous: well into the double digits.
- Largest profit potential — Picking the right restaurant at the seed stage will generate far more profits than crowdfunding or hopping on the bandwagon during a Series C.
- Time intensive — Unless you trust your gut or throw caution to the wind, picking the right restaurant at the seed stage requires networking, poring through business plans, and more.
- Expensive — Angels typically invest six figures for a double-digit equity stake, which doesn’t leave much room for diversification.
- Mega-high risk — Most angel investing opportunities are in a single restaurant location, 80% of which fail within five years. Statistically, the odds are better in Vegas.
Invest Through Crowdfunding
With profit margins hovering in the 3% to 5% range, restaurants often struggle to secure loans from traditional lenders. On the flip side, seed funding can be difficult to secure promptly and almost always involves forfeiting a significant equity stake.
That’s why so many restaurateurs turn to a third option: crowdfunding.
Unlike Kickstarter — which is more geared towards soliciting donations in exchange for perks, early product access, etc. — restaurant crowdfunding sites offer something more substantial:
- Honeycomb Credit operates like a P2P lending site, where investors fund loans to restaurateurs in exchange for fixed interest payments over time. Rates range from 5% to 14%.
- Mainvest eschews fixed interest payments for a revenue-sharing model, so investors who put their money in the right restaurants can earn up to 25% ROI. Check out our full review of Mainvest.
- FranShares enables you to invest in new franchise locations – including restaurants – for a lockup period of around five years and target returns of between 16% and 21.86%. Check out our full review of FranShares.
For investors, crowdfunding is magnitudes more convenient and straightforward than angel investing. The chief drawbacks are that the profit potential is limited, and the ~15% returns only come if the restaurant survives — which many don’t.
But crowdfunding may be the shoe that fits if you’re willing to trade profits to support someone else’s passion.
Read more >>> Reg CF vs. Reg A+ Crowdfunding Offerings: Similarities & Differences
Pros and Cons of Crowdfunding
- Convenient — Platforms like Honeycomb Credit and Mainvest let you register, browse, perform due diligence, and invest in a restaurant without a visit to the local incubator.
- Better selection — If you expand your scope to multiple platforms, you’ll typically have dozens of opportunities to consider at once.
- More predictable short-term returns — Whether operating on a fixed interest or revenue-sharing model, crowdfunding returns tend to be priced out for investors (although not guaranteed).
- No equity — Most crowdfunding opportunities don’t involve an exchange of cash for equity — just fixed interest or revenue sharing.
- Illiquid — Restaurant crowdfunding sites (and crowdfunding sites in general) typically don't have a secondary market, so you’re locked in for around five years.
- The “default” rate is still high — If new restaurants had a Corporate Credit Rating, it would probably hover somewhere in the C or D range. In other words, both your earnings potential — and the likelihood you’ll get 100% of it — are low.
Invest in Restaurant Stocks and ETFs
If angel investing and crowdfunding aren’t your style, there’s always the good ol’ stock exchange.
The restaurant industry operates like a microcosm of the greater stock market, with its own blue chips, rising stars, and risk-adjusted ETFs. As you might expect, the blue chips include heavyweights you see on highway signs like Starbucks (SBUX), McDonald’s (MCD), and Domino’s Pizza (DPZ).
Rising stars/investor darlings include Yum China Holdings, Inc (YUMC), which split off from Yum! Brands in 2016, and rotating sushi giant Kura Sushi USA (KRUS), both of which have smashed recent earnings expectations.
And for something a little less spicy, there are ETFs like the AdvisorShares Restaurant ETF (EATZ) and the Invesco S&P SmallCap Consumer Discretionary ETF (PSCD).
Restaurant stocks seem to be making a slow recovery from pandemic-era lows, but a long-term windfall is far from guaranteed. The ongoing labor shortage, record inflation, and the rise of takeout-only “ghost kitchens” mean high volatility for anyone entering the sector.
Pros and Cons of Investing in Restaurant Stocks and ETFs
- Liquid and convenient — You can buy, sell and trade stocks all day, whereas direct investing and crowdfunding typically involve lockup periods of 5+ years.
- Easier to diversify — Restaurant stock investors can hedge their overall risk by diversifying way easier than angel or crowdfunding investors.
- The post-COVID landscape creates opportunities — Restaurants that adapt quickly to changing consumer preferences could see huge windfalls by the mid-2020s.
- 99% percent of restaurants aren’t listed — You won’t find local mom-and-pops or pie shops in the Russell 1000, so if you’re looking to support local, stocks aren’t a fit.
The post-COVID landscape also creates volatility — The labor shortage, wage disputes, efforts to unionize, burning inflation, and ongoing supply chain woes are all wreaking havoc on restaurant stocks.
Should You Invest in Restaurants at All?
Whether it’s a local donut shop or a global mega-chain, investing in the right restaurant at the right time can be difficult.
Surviving local restaurants may only generate 3% to 5% profits for years. Even blue chips like McD’s and Chipotle face an uncertain future with supply chain woes, high inflation, and shifting diner preferences.
That’s not to say that profit opportunities don’t exist — just that restaurants are no cash cow. If profits are your sole motivator, you might want to look into faster-growth sectors. But if you have the passion, risk tolerance, and institutional knowledge, a restaurant investment might make sense in 2022.
Pros and Cons of Investing in Restaurants
Now that we've covered the benefits and drawbacks of different restaurant investing styles, here are the general pros and cons of investing in restaurants.
- New trends could create huge winners — Delivery apps, ghost kitchens, the vegan food revolution… Industry shakeups create profit opportunities, so picking the right restaurant investment today could pay off in a big way later.
- More points of entry than ever before — Aspiring restaurant investors have never had more choice or convenience with stocks, ETFs, and multiple crowdfunding platforms.
- You can support your neighborhood restaurateur — Foodies and ESG investors alike may find intrinsic reward in supporting the right restaurant at the right time.
- Data can be extremely limited — Just 1% of restaurants are listed on a stock exchange, and the rest can be challenging to research. Even with pitch decks and piles of analytics, predicting a single restaurant’s growth trajectory can be a shot in the dark.
- Most restaurants fail within a year — As a result of the uphill battle facing new restaurants, 60% fail within the first year of opening, and 80% fail within five years. That’s nearly the casualty rate of the average startup, which is 90%.
- Industry volatility could hammer restaurant stocks — Labor shortages, wage disputes, efforts to unionize, food inflation, supply chain woes, and rising interest rates could all severely impact restaurant stocks in the near term.
Alternatives to Investing in Restaurants
If, after reading this you realize that investing in restaurants isn't for you, you have plenty of options.
- For sectors with higher growth potential, check out AgTech or green energy.
- If you’re looking for food industry ETFs with a higher market cap than the ones listed above, check out Coffee ETFs. Or, consider investing in whiskey and other spirits for a longer-term food industry investment.
- Finally, if you’re looking to capitalize on the rise in demand for healthy food, check out my feature on the 5 Best Vegan Stocks to Invest In Plant-Based Foods.
The Bottom Line:
Despite a fresh smorgasbord of options, restaurant investing can be tricky. The high failure rate is enough to scare away the average investor, but it presents a tasty challenge for those with the passion, purse, and experience.
Chew on these food-related investment options:
- How to Invest in Lab-Grown Meat: 5 Best Companies to Invest In
- 7 Insect-Based Food Startups on the Rise in 2022
- Best Ways to Invest in Agriculture & Farming (Without Owning a Farm)