Pandemic is turning the tables on risk profiles for restaurant loans


This story is part of a series that examines how the coronavirus is affecting the tourism industry and the lenders exposed to it. Read more here.

A year ago, fast food restaurants struggled to cope with pressure on profit margins as labor costs drove spending while online delivery competitors captured market share. The COVID-19 pandemic has turned the tables and left full service restaurants and the financial firms that lend them credit – the most vulnerable.

As the virus swept through the country and government officials ordered public companies to shut down, sit-down restaurants that rely on an intimate experience seem particularly exposed. On the flip side, fast food establishments with drive-through windows conducive to social distancing have largely remained open.

For the financial sector, the momentum could result in relative strength for banks that are more focused on fast food and losses for non-banks with exposure to higher value concepts based on full tables. Industry experts say that losses to lenders ultimately depend on each loan and the market, the concept and the ability to execute the restaurant.

“Restaurants are inherently less capitalized. When you’re dealing with an undercapitalized, thin-margin industry, you can’t operate profitably if visitor traffic drops by 50%,” said Benjamin Sabraw, general manager of SMS Financial LLC, an investment company specializing in non-performing loans. “Even at 35% [less traffic]”You can’t make a profit.”

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Some markets have started to reopen and consumers have shown they enjoy eating out.

“Take Florida, for example. People were dying to get out, and that alone will create demand for restaurants,” said Dan Holland, director of restaurant loans at Cadence Bancorp, traffic jam on Memorial Day weekend. “I think it will be community specific.”

But demand remains well below normal in markets across the country. Restaurant bookings in Hawaii were down more than 94% year-over-year on June 22, which is the biggest drop in the country, according to online booking agent OpenTable. Rhode Island was the only state with a 1% increase in bookings.

Opportunities in the new normal

For banks with exposure to restaurants, their general focus on “quick service” or “limited service” restaurants, often known as fast food or fast casual restaurants, should limit losses.

An S&P Global Market Intelligence analysis of the first quarter disclosures found that Wells Fargo & Co. had the largest number of restaurant loans outstanding at $ 5.8 billion. Restricted restaurants accounted for $ 3.9 billion of that.

At other banks, the concentrations in restricted restaurants or fast food restaurants were similar. Cadence Bancorp reported that quick service represented 68% of its portfolio. The bank reported write-offs in its restaurant portfolio in the second and fourth quarters of 2019. With just over $ 1 billion in restaurant loans in the first quarter, or about 8% of gross loans, the bank has one of the largest concentrations in the industry.

But many of the bank’s problem loans are due to rising labor costs in the fast food industry, such as new minimum wage laws and a competitive labor market, executives said. With restaurants being forced to close in-store restaurants due to the pandemic, operators will need fewer workers to run the business.

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“Now we are seeing operators with a pure drive-thru business. It’s a more efficient work model,” said Paul Murphy, Cadence chairman and CEO. “Some of the operators make comments that restaurants will be smaller and out-of-home bigger in the future.”

According to Murphy, Cadence plans to further reduce its restaurant exposure and aim for a $ 750 million book. But the bank will still be considering new loans and recently evaluated two deals in a week, Murphy said. Given the economic uncertainty, the bank is focusing on borrowers with moderate to low leverage, but underwriting cash flow is a huge challenge given the number of unknowns, Holland said.

“How does it look on the other side?” he said. “We’re digging really deep there and making sure we understand what the new normal looks like. In many cases, it just needs to be determined.”

Many lenders are in the same boat, said Derek Ladgenski, a partner at Katten Muchin Rosenman law firm, which advises companies, including restaurants, on debt financing. He said lenders had asked for less leverage, more equity contributions and less borrower-friendly legislation when considering new deals. For existing loans, lenders, and banks in particular, have generally worked with borrowers to delay principal and interest payments.

“People who know the space are well placed to get out of this OK,” he said. “They don’t know when it will be okay or how long it will take, but they know that lending is a partnership.”

Among the full-service restaurants where customers order from a server, financiers say the owners are similarly changing operations to adapt to the pandemic. For certain types of business, distancing tables and relying on take-out orders may be enough, but upscale restaurants will struggle to make a profit in these conditions, said Jason Ader, founder of SpringOwl Asset Management, a hedge fund that looks to distressed businesses aims.

Pandemic practices like spreading tables reduce restaurant revenues, while stricter cleaning measures and the printing of one-way menus are driving up costs.

“Good food is going to have problems because it’s only important to have two seats and it’s important to have density,” Ader said. “It was tough business at first. If these are the rules for a long period of time, no restaurant can survive.”

Alaskan Wilderness

Lenders expect markets to recover at significantly different rates. While the faster reopening has boosted business for states like Florida, there is also evidence of a surge in COVID-19 cases that could undo the recovery. Meanwhile, markets that are more reliant on seasonal tourism are already facing a lost year.

One of the slower reopening states is home to markets that are particularly exposed to restaurants and hotels. Alaska requires a 14-day quarantine for out-of-state visitors, a policy that was lifted June 5. The state relies heavily on the cruise industry, which attracts thousands of tourists visiting port cities and taking shore excursions to see the state’s natural beauty. Alaska’s Denali District is the hardest hit by the hospitality and food service industries among U.S. counties.

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The prospects for Alaska’s hospitality industry are particularly weighed down by its latitudes. The tourist season typically runs from May 15 to September 15, so losing two or three months – many operators postponed opening until July 1 – means losing nearly half of their busy season to make money, said Vanessa Jusczak, director of the Denali Chamber of Commerce.

Still, most of the small businesses in Denali are planning to open and hope they can survive the pandemic, Jusczak said. While the short season of money-making exacerbates business losses, it also increases the value of funds received through the government’s paycheck protection program, which covers expenses in the form of a conditional forgivable loan for eight weeks.

“I would say there’s a 50-50 split between worry and optimism,” Jusczak said in an interview, adding that state travel has seen an increase as Alaskans use empty campsites that are usually crammed full are. Townspeople. “Everyone is betting that other Alaskans will take staycations.”

However, Jusczak said it seems clear that travel within the state will not be enough to replace cruises brought by an industry group to 1.4 million visitors a year. Several smaller lodges and shops in remote areas have already closed for the year, she said. More than one major cruise line has canceled Alaska trips for the season. Cruise companies typically work with local businesses, tour operators and restaurants in port cities to offer visitors activities while berthing, said Alicia Maltby, executive director of the Alaska Hotel & Lodging Association.

“It’s going to be tough,” she said. “I think everyone is focused on 2021 right now.”


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