Pacific Rim Business Brokers Pty Limited

6.  Steps to Take When Buying a Motel

a. Area

Limit your search for a motel to your preferred area.  Most motel buyers have a good idea of the area to which they wish to move – eg North Coast, South Coast, inland, within three hours of Sydney etc.  At Pacific Rim Business Brokers, we have all NSW motels in our database, and can tell you exactly how many properties there are in your preferred area.

b. Type of Motel

Motels come in all shapes and sizes.  You probably have a preference for room numbers, star rating, restaurant etc.  Once again, we have all this information on our database. 


If you purchase a motel with 15 rooms or less then you and your partner will probably run the operation yourselves with very little external help.  Motels with 15 to 30 rooms are usually run by the proprietors with permanent or casual housekeeping assistance.  Proprietors who own motels with 30 or more rooms are seldom involved in the day-to-day housekeeping while proprietors of motels with 50 rooms plus tend to run a corporate style operation, often with assistant managers, catering managers etc.


Whether your motel is big or small the chances are you will be working fairly long hours.  If you enjoy the industry, as many moteliers do, this will not be a problem.  If you find you do not enjoy the industry then call us again and we will sell your motel, hopefully for a better price than you originally paid.

c. Price

The price you can afford is dictated by lending conditions.  In general, banks will lend up to 65% of a freehold motel’s value as assessed by a professional valuer.  Therefore you need at least 35% in cash or 35% in a combination of cash and other real estate assets.


For a leasehold motel the maximum loan is currently 50%.


Lending also depends upon serviceability, so if you are unable to repay the loan from the motel’s cash flow, the loan will not be forthcoming.


In addition to the price you will have to pay stamp duty, legal fees and a valuation fee.  You will also have to cover the costs of relocating, and you need a small float for the day to day running of the motel.


Stamp duty on both leasehold and freehold motels is set out below:

Price Stamp Duty
$0-$14,000 1.25%
$14,000-$30,000 $175 plus 1.5% of (price minus $14,000)
$30,001-$80,000 $415 plus 1.75% of (price minus $30,000)
$80,001-$300,000 $1,290 plus 3.5% of (price minus $80,000)
$300,001-$1,00,000 $8,990 plus 4.5% of (price minus $300,000)
Over $1,00,000 $40,490 plus 5.5% of (price minus $1,000,000)

As discussed, the return on investment for a standard NSW country freehold motel is around 14%.  This is just the net profit divided by the price.


Your return on equity can be substantially more.  Take a motel costing $2,000,000 with a 14% return ($280,000 net profit).   Stamp duty will be $95,490.  If legal costs, valuation etc comes to $12,000 then the total investment is $2,107,490.


If the bank lends 65% of $2,000,000 ($1,300,000) then the purchaser must have equity of $807,490.


If interest is 6.5%, then $84,500 must be paid from the net profit of $280,000, leaving $195,500.


$195,500 on $807,490 represents a return on equity of 24.2%.


The return on equity will depend upon the return on investment, the amount borrowed and the interest rate, but it will always be substantially higher than the return on investment.

d. Freehold or Leasehold?

Most motel purchasers prefer the security of a freehold purchase, but many lessees make profits and capital gains that are as strong as, or stronger than those of freehold moteliers.  A leasehold purchase allows you to operate a larger property for a smaller price, but does not allow you to operate that property forever.  When your lease expires, so do your rights to the property, and you must renegotiate with your landlord or move out.


Most lessees sell their leases before they expire, often making substantial capital gains.  Therefore the longer the lease, the better the deal.  It is unwise to pay a substantial premium for a lease that has less than ten years to run.


Leasehold motels often have problems regarding repairs and maintenance.  The landlord is reluctant to cut into his rental return by outlaying vast sums on his property, and the lessee is unwilling to invest in what he sees as a benefit for the landlord.  It is therefore important to examine the repairs and maintenance provisions of a motel lease, so you can see exactly who is responsible for the various aspects of a motel’s upkeep.


A small, run down freehold motel is often a worse proposition than a larger leasehold property, and if your budget is less than $500,000 you should closely examine leasehold properties and not confine your search to freehold motels.

e. The Great Restaurant Debate

Many potential purchasers prefer motels without restaurants.  Others see the restaurant as a source of additional profits and a vital ingredient of the motel business.


The majority of small motels run their restaurants at a loss.  A 30 room motel with a 50% occupancy rate can draw restaurant guests from 15 rooms.  If there are 1.5 guests in each room, and only one third of them decide to eat in the motel restaurant, then the restaurant will cater for only 7.5 guests.  7.5 guests cannot profitably support a chef, waitress, cooking materials, power etc, so unless the restaurant can attract diners from outside the motel, it will run at a loss.


However, this does not mean that a new owner of a small motel should close down his restaurant.  There are many other possibilities, eg


·         Lease the restaurant.

·         Promote weddings and conferences.  With set menus and prepayment there is very little waste, while larger numbers produce economies of scale.

·         Make the restaurant the best in town.  NSW country towns mostly rely on clubs and hotels for restaurant service and many are desperate for alternate venues.


Motels without restaurants are generally easier to run, but fail to attract bus groups and business representatives.   Motels with restaurants that are well managed have the potential to generate a second stream of profits.

f. Contact Agents

Agents are happy to provide prospective purchasers with details of motels on the market providing the purchasers can demonstrate that they are serious buyers.  Potential purchasers who have owned a motel previously, have inspected a number a motels with a view to purchasing or have discussed finance with a bank are generally regarded as likely prospects.   Purchasers who indicate that the idea of buying a motel has only just crossed their minds might find difficulty obtaining listing details from agents.


Purchasers are often asked to sign a confidentiality agreement.  If they refuse they are generally regarded as unlikely candidates for a motel purchase.

g. Inspections                                                

It is important to physically inspect as many motels as possible that are in the area that interests you and within your price range.  While agents’ reports can be very comprehensive, buyers will discover much more about the motel by inspecting the property and talking to the owner.  Owners often tell buyers small details that are not included in sales reports, thereby influencing the buyer’s decision to purchase or not to purchase.


Many buyers treat vendors with a great deal of suspicion.  This is not a good idea.  The majority of moteliers are honest, hard working business people who are prepared to provide buyers with all the information they require.  However, they are often concerned about their staff discovering that the motel is on the market, and it is up to the buyer conduct inspections with discretion.


When you inspect a motel always think of things you can do to improve it.  The property may need repainting, landscaping, minor or major renovations.  Remember that the figures the motel produces are the results of an array of circumstances, many of which are under the control of the motelier.  If you can improve the circumstances of the property, you can improve the profitability.


Make a note of your first impressions when you inspect a motel.  Your opinion of the property is probably similar to that of a potential guest, and you can use these first impressions to improve the property.  It is advisable to prepare a list of questions for the vendor.  Ask him about the type of guests he accommodates – holiday makers, business representative, retirees, etc.  Discuss annual repairs and maintenance and ask whether there are any major repair projects on the horizon.  Ask about the motel staff – how long have they been employed; are they reliable?  Discuss the daily routine of the vendor.  You will be replacing him, so his daily tasks will become your daily tasks.


Some vendors will provide you with a great deal of information about their property, while others can be very secretive.  You must ask yourself “what information do I need to make a decision about this property?”  If the information is not forthcoming the broker will strongly advise the vendor to be more open about his business.  The vendor, however, will only respond positively if he believes the purchaser is genuine.


Every motel you inspect increases your knowledge of the industry and helps you assess and compare properties currently on the market.  You will probably inspect at least half a dozen properties before finding one that almost suits your requirements.  You are very unlikely to find a motel that suits all of your requirements, but you are very likely to find one that fulfils 80% of your requirements.  You must then decide whether your complete requirements are unrealistic in the current marketplace, or whether you can transform one of the motels you have inspected into your ideal property.


There are a number of potential purchasers on our books who have been looking for motels for over five years.  Unfortunately, they will never buy a motel because they cannot accept the sad fact that there will always be something wrong with every property they are likely to inspect.  While other buyers purchase, improve, resell and realise substantial capital gains these “professional lookers” see opportunity after opportunity slip through their fingers.


The questions you must ask are:


What is wrong with the motel?

Can I fix it?

If I can’t fix it will it affect future business?


Many motels with small problems such as an inconvenient configuration, secondary location, substandard manager’s residence, trade very profitably and change hands for prices that reflect their profits rather than their minor inconveniences.

h. Checking Figures

You and your accountant will require sufficient supporting evidence to prove that the figures presented by the vendor are genuine.  It is important to be diplomatic when you request documents that will substantiate the figures.  Many vendors feel buyers request too much information, or information which is not relevant to a purchasing decision.  Many purchasers request information in a way that leaves the vendor in no doubt that they distrust him.  This often results in a breakdown of the sale process.


When requesting documents to substantiate the vendor’s figures it is preferable to use the services of an accountant.  Accountants can generally request documents diplomatically and, if they have experience with motel accounting, can quickly establish the veracity of the figures.


To substantiate motel revenue, accountants rely on the Profit and Loss statement, the Business Activity Statements, reports from the motel’s computerised booking system, bank statements and the quarterly statements sent to the Australian Bureau of Statistics.


Bank Statement Revenue = Motel Sales less adjustments for debtors.

ABS figures show revenue from accommodation only.  This should tie in with the motel’s booking system.

BAS revenue less GST should equal the Profit and Loss Statement revenue.


However, note that not all moteliers are scrupulously careful when keying data into their computers.  A motelier, or his receptionist, may, for example, enter a coach group as a lump sum, rather than divide the revenue between accommodation, food and beverage, park entry fees etc.


Motels tend not to have many debtors, but this does not mean that annual revenue will always equal banking.  If a coach group pays a deposit in one year for a booking in the following year, bank deposits in the year the deposit was paid will be higher than sales revenue.


These adjustments are not difficult to trace, but some motel buyers get tied up in knots when they try to decipher trading figures.


Food and beverage purchases are generally around one third of food and beverage sales, although this can vary considerably.  If food and beverage purchasers are substantially higher than one third, there is a good chance the motelier is “living out of the business”.  Some motel accountants indicate this with a “Good Own Use” account.  Others overlook it.


Motel expenses can be divided into fixed and variable.  Fixed expenses do not depend upon revenue, variable expenses do.  Land tax, rates and insurance are examples of fixed expenses.  External laundry charges, guest supplies, food and electricity are examples of variable expenses.  Monthly variable expenses should follow the pattern of monthly revenue.  If they do not there may be an error in the accounts.


Fixed expenses such as council rates and insurance seldom go down.  If there is a substantial variation from year to year the motelier may have paid three quarterly bills in one year and five in the next.


It is quite legitimate for a motelier to add back certain expenses.  Valuers regard the net profit of a motel as the profit before interest, depreciation, the owner’s wage and any one off non repeatable expenses.


Interest is an obvious add back.  The vendor’s level of borrowing will be quite different to the purchaser’s level of borrowing, so it makes sense to consider the net profit before interest.


Adding back depreciation also makes sense.  Take two motels, A and B.  Both have a net profit before depreciation of $250,000.  Motel A has brand new furniture and fittings that are depreciated at $80,000 per annum.  Motel B has no depreciation.  Its furniture and fittings are on their last legs.  It is clearly ridiculous to value Motel A less than Motel B, when A’s depreciation helps keep tax down, and the owner of B will soon need to completely refurbish his property.

Motel A Motel B
Net Before Depreciation $250,000 $250,000
Depreciation $80,000 $0
Net After Depreciation $170,000 $250,000

The owner’s wage add back can cause difficulty.  One owner might work incredibly hard, thereby keeping down other staff costs.  Another owner might work part time only, and therefore run the motel with additional staff.


Most 15 to 40 room country motels are run by a couple, and a valuer will generally adjust the wages so they reflect the staffing requirements of a reasonably hard working husband and wife or partnership.


One off, non-recurring expenses are legitimate add backs.  But if they crop up every year then they may not be one off.


Many discrepancies in motel accounts are the result of minor honest errors.  If they do not affect the net profit they can, in some cases, be overlooked.  Unfortunately, a small number of motel accounts contain major dishonest errors, and if you come across properties in this category it is best to look for alternate propositions, or make an offer that reflects your opinion of the true net profit.

i. Making Offers

While a number of moteliers place a price on their property and refuse to negotiate, the majority expect potential purchasers to make offers.  Many buyers make the mistake of not making an offer for a motel that interests them.  They feel that the vendor will be insulted by their offer and, rather than take the matter further, they back away from the deal.  These buyers are often surprised when they discover a few months later that the property in question sold for the price that they were too timid to offer.


Very few motels sell for prices outside the market price and very few moteliers expect to get offers outside the market price.  A motelier with a property worth, say $1,000,000, may start with a price tag of $1,200,000, but will eventually accept an astute purchaser’s offer of $1,000,000.  If the motelier gets fed up with the time his property has been on the market, he may accept a price below the market level.  Only buyers who are not afraid to make offers secure these bargains.


You should decide on your offer price based both on the trading record of the motel, and what you believe the motel can achieve.  The latter is very important.  The majority of buyers look at past figures only, and do not take into account the potential of the property.  The few buyers who take both into consideration make the best decisions and secure the best capital gains on resale.  The top five clients of Pacific Rim Business Brokers who secured the highest capital gains when they resold their motels all purchased properties that were running at a loss.   Had they only taken into account past trading they would not have achieved their spectacular capital gains.


Do not be timid when submitting offers.  If you are dealing through a broker he will submit the offer on your behalf.  Brokers are not concerned about submitting low offers – a broker has the hide of a rhinoceros.