Getting the Timing Just RightAugust 1, 2010 No Comments
Location-based entertainment (LBE) entrepreneurs are faced with a dilemma when it comes to developing an LBE project: Do I prepare my business plan and obtain my financing before securing a site, or does securing the site come first?
The challenge, or should we say quandary, comes about due to the development timeline. Once a site is secured, usually in the form of an option to purchase, an LOI (letter of intent) or a signed lease with a contingency, the time available to wrap up financing and move forward is limited. So it logically makes a lot more sense to first finalize the business plan and financing. However, this approach becomes more complicated when you consider both the market and economic feasibility study. Can they be completed before a site is secured? The answer is an unqualified no.
The location of the actual site has an impact on the geographic trade area, market penetration, attendance and the pro forma financial projections. A one-half mile difference in location can make a dramatic difference in attendance. A market study has to evaluate many factors to determine the trade area and attendance. These include such things as a site’s visibility, accessibility, the socio-economics of surrounding residential areas and the synergies and compatibility of adjoining uses. An FEC next to an adult strip club or junkyard will not have the same attendance as one next to a mall or movie theatre, all other things being equal. Likewise, an FEC on a back road will not generate the same attendance as one on a main highway in the same vicinity. So the specific site becomes critical for the overall feasibility and projections.
The specific site also has an impact on cost. Take two raw land sites within a quarter mile of each other. The cost to develop them can easily vary, sometimes significantly. One site might require a lot of expensive infrastructure improvements and grading, while the other might not. For a rented store space, one store might require much more expensive remodeling for windows, air conditioning, plumbing, etc., while another store directly across the street could cost much less to renovate. Thus, until the actual site is identified, an accurate cost estimate cannot be prepared to be part of the business plan. And without knowing the cost, it is impossible to structure the project funding and calculate the return-on-investment, a critical investment decision criterion for both the entrepreneur and investors. Even worse, if the cost is only based on overall square foot estimates and not based on a detailed site-specific cost estimate, the funding can easily end up short. Inadequate funding may prevent either the completion of the project or may even compromise the project’s mix of attractions and the finishes. This could result in worse performance than projected and possibly even in a negative cash flow.
There are some consulting firms in the industry that will prepare a feasibility study without a specific site being identified. We believe they are doing their clients a big disservice, as they are making many assumptions in the study that will probably not prove accurate. Their feasibility studies, in effect, are presupposing that any site will cost and perform the same within the general market, which is never the case.
It is better to take a two-step approach to the feasibility study when a site hasn’t yet been identified. First conduct a market evaluation of the general area to determine if a project appears feasible. Based on that evaluation, if a project is feasible, determine the general type, mix and size for the LBE or FEC based upon the market. This then identifies the site specifications to guide a site search. An area wide evaluation can also identify the best areas in that market where the site search should be focused. While this is happening, work can begin on drafting the business plan. A business plan has many parts that don’t require the market study or economics, including the entrepreneur’s background and experience, a general description of the project, how the project will be managed and marketed, etc. Then, once a good site is located and secured, the formal market study, cost estimate and pro forma projections can be prepared and plugged into the business plan.
The other issue with completing the business plan before the site is secured is that banks, and most investors, are not willing make a funding commitment until they know the project is for real in terms of a site and they can sort of ‘kick the tires.’
Developing an LBE and securing its financing is not easy. It’s like juggling. There have to be lots of balls up in the air all at the same time, and they all have to come down at just the right time for the project to come together. Developing an LBE requires risk capital – money the entrepreneur has to invest to secure the site, the feasibility study, the business plan and sometimes a securities offering circular for investors before all the financing can be secured. That investment can become sizable, often $50,000 or more. That is the nature of being an entrepreneurial LBE developer.
There is no easy, risk-free route to developing an LBE. The only sure route to success, meaning developing a long-term financially successful project, is to do it right, and that means a market and economic feasibility study that is site specific. Short-cutting the process only leads to problems that either prevent the project from coming out of the ground, being completed or negatively impact the LBE’s performance and longevity.