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Dispelling B&B Myths: Business Rules-of-Thumb

June 5, 2001

by Kit Cassingham

As you conduct your bed and breakfast market research you'll learn different guidelines for the best size and style for successful bed and breakfasts. As with all rules of thumb, know when to accept and reject them. There are insurance, valuation and pricing rules of thumb to help you get into business. But don't lose sight of your dream or your financial reality as you make plans.

As I talk to Innkeepers, Aspiring Innkeepers, and B&B consultants/brokers alike, I hear about the myths of the innkeeping business -- misconceptions that can affect your business as you get in or get out. This is the third in a series exploring some of these myths.

Let me start this by reminding you that I'm a bit of a "contrarian" thinker when it comes to rules. I believe that rules are wonderful guidelines to help us process a situation. I also believe that rules can bind our thinking if we treat them as gospel, rather than guides. I want to introduce you to the industry rules and give you pointers about using them without being too bound by them.

I have been hearing since I approached this industry in 1985 that it takes 10 rooms to make money. It ain't necessarily so. I know of four- room B&Bs that are booming and I know of 15-room B&Bs that are sinking. There are consultants who say you have to have over 20 rooms to make a go of it while others say a restaurant is a must. I say, follow your heart, understand your financial needs and abilities, and make your dream work for you. The number of rooms required to make money for you depends on what you need financially, what your purchase price for the building is, what kinds of room rates you can command, and what occupancy rate you can build. See, it "all depends"!

Another "rule" I have heard is that if you don't have a minimum of $200,000 in your pocket there is no need to even start shopping for a B&B. My problem with that rule is that it denies people with tenacity, energy, and a dream to even take a stab at their dream. I agree that if you go the "business-smart" route and buy an existing B&B it does take lots of money, though not necessarily $200,000. You might buy a smaller inn than you initially dreamed of, keeping in mind that you can expand the inn as your financial abilities expand. For those with more limited funds, having an outside income is required during the early years of building a business from scratch. It is typically better to buy an existing inn because there is some reputation and cash flow immediately, but there are also valid reasons to start from scratch. The sad reality is that it's an incredibly rare situation where you can start with nothing and have a thriving business to call your own. My belief is that where there is a will there is a way, as long as you are realistic, flexible, and creative.

So, where do you locate your B&B to have an opportunity for the best year-round business? It's not uncommon for me to hear that a ski resort is the place to go. My Colorado experience, which I doubt is different from anywhere else in the country, is that ski resorts do not have year-round business, not even close. Some ski communities do put forth effort to build non-ski-season business, but not all. The areas that focus on building off-season business do eventually build stronger summers and "shoulder seasons" than those communities that don't make the effort. But even then, there are two to four months during the year where people just don't come, even though you built your B&B for them. The best community for year-round business is an urban area. Your dream, your idea of how much you want to work during the year, should guide you on where you locate. Your market niche will give you the answer, so build around that.

When I talk about pricing a B&B, I'm including the real estate, the furnishings, business records, and supplies; I'm pricing a turnkey operation. Some pricing rules-of-thumb, useful for Buyers and Sellers, are used and ignored depending on who is helped by the results. My favorite rule is the Gross Room-rent Multiplier (GRM). It's my favorite because the basic element of the business's success is the gross income, so it makes a great analysis tool. The gross *room* income is multiplied by the multiplier of 4.5 (that's the average; the range is 4-6), giving you a ballpark sale/purchase price. The multiplier varies depending on the condition of the business, the condition of the building, and what level of amenities are provided. But, as with all rules, some common sense and heart needs to be applied when using this tool. If there are other businesses at the B&B that create income, evaluate those separately. Collected taxes are not part of the room income.

Another pricing rule is the NOI, Net Operating Income. This method assumes some standard operating guidelines for expenses. You subtract the *normal* daily operating expenses from the gross *room* income. Divide the remainder by 10% to get a ballpark sale/purchase price.

The value used for dividing ranges from 8-13%, and again depends on the condition of the business, the condition of the building, and the level of offered amenities. This rule is a bit harder to apply because it takes a bit more understanding and analysis to know what the normal daily operating expenses are. Because every innkeeper has a different way of running their business, the expenses will vary among innkeepers. This method doesn't take that into account as easily.

The price/furnished guestroom pricing method can be helpful, but it's only valid if the B&B has a 65% occupancy rate. There is more opinion used, more subjectivity, in this method than even the other methods because there is no hard fact to run with. The condition of the building, the business, and the amenities make a difference in the price guideline. The average multiplier is $100,000 per guestroom. Of course there is a range, which is a broad one, compounding its subjectivity. I will use this method, but only as a check and balance for my other methods.

The least useful or valid pricing method, in my opinion, is the price per square foot multiplier. While some consultants and brokers use this approach, I don't think it takes into account the condition of the building, the location, or the value of the business therefore I don't use this approach, even to value residential property. One of the caveats I have is that young businesses can't really be valued with these rules. I don't usually take the results of these exercises seriously for a B&B that's less than three years old. Often the real estate is worth more than the B&B value and you have to apply some common sense and heart to determine what the purchase value is for a young business.

Speaking of the real estate being worth more than the B&B, it's not uncommon in areas where appreciation has increased tremendously for the building to have more value than the B&B with its business. You may decide it's still a great deal, buying a B&B at the current rate rather than at the "reasonable" B&B rate, but do be aware a return on your investment is more difficult when you take that approach. We all have our reasons for our actions and this investment decision is no different.

Learn the industry standards and rules of thumb. Use them. Then let them go and apply some heart. I firmly believe that you need to balance your heart with your brain when it comes to making these decisions regarding your inn career; getting in, staying in, or out. This industry is a balance of heart and mind so you might as well start practicing that balance now. Sometimes rules are meant to be broken, you know.




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