We wrote earlier this week about MTF Enterprises, a 43-unit franchisee of Subway that filed for bankruptcy.
The filing itself is not all that unusual. After a few years of weakening profits and sales challenges, a lot of franchisees are facing cashflow problems, especially if they have a lot of debt. And Subway in particular has closed a lot of locations over the years.
But the bankruptcy was necessitated by the company’s use of merchant cash advance financing.
The company took out $1.4 million in advances from two companies. One advance had an interest rate of 59.39%. The other 94.54%. The MCA companies’ weekly draws drained cash flow. And then one of the companies started putting liens on the franchisee’s revenue collection methods, through Stripe, Square and American Express, which prompted the filing.
Last year, we told you about Matador Restaurant Group, a Del Taco franchisee that took out $2.7 million worth of cash advances from nine different entities.
And we also told you about Fat Brands, which operates 16 restaurant chains, including the casual-dining brand Twin Peaks. Its cashflow problems were so severe that it needed at least $6 million, and as much as $15 million, worth of such advances, according to various legal filings.
While the two franchisees each blamed the advances on their bankruptcy filings, it’s safe to say that Fat Brands’ filing was more due to its $1.5 billion in secured debt than any such advances.
Their use, by such big operators, may well be one-off situations brought on by their individual issues. Indeed, small companies have long used MCAs as a source of financing during tough times.
MCAs are some of the most dangerous types of financing there is. The companies take their fees up front and businesses pledge a percentage of their credit or debit card sales. The effective interest rates can add up, and the constant payback drain companies of cashflow.
The financing can therefore be better for companies that need emergency cash but have plenty of revenue coming in to pay the advances back. But it’s rarely effective for any company that has existing cashflow problems, because such companies hardly need any further drain on whatever resources they have.
The California Department of Financial Protection and Innovation is asking for complaints from businesses that used such financing, concerned about such firms’ practices.
Fat Brands used any financing it could get to fund its regular operations while paying off its enormous debt. But the company also took one such MCA provider to court, accusing the company of “loan sharking.”
Still, the use of MCAs by such large franchisees is a clear sign of the growing stress on operators following a tough several years.
Restaurants have faced weak sales and rising costs. Profitability has taken a big hit.
This has been especially tough on some brands with a history of challenges, closures, bankruptcies or other issues.
Such companies can struggle to get financing because lenders won’t loan money into those brands, given their histories. And the operators can’t necessarily find buyers willing to take stores off their hands.
With few options, desperate operators turn to MCAs, hoping to buy some time to fix whatever is ailing their business.
More often than not, they buy a disaster.