Dutch Bros last month thought it had a coup: 65 sites, including 51 premium locations in crucial markets, of the now-defunct Salad and Go. Yes, it cost the company $105 million, for leased sites. But the brand needs locations, and it also gets the side benefit of keeping a rival out of them.
And then 7 Brew stepped in with a better offer, one that was at least $10 million more than the one that Dutch Bros agreed to. Salad and Go had no choice but to agree, and request an auction, which was to happen on Monday.
But Dutch Bros opted not to participate. 7 Brew was able to buy 73 locations, all leased sites, for more than $143 million.
The result is a clear win for 7 Brew, which now accomplishes what Dutch Bros thought it did. It’s a huge win for Salad and Go. Its vendors will be paid, and the equity holders will likely walk away with a few bucks. That is far more than can be expected in any bankruptcy process.
That doesn’t mean it has to be a loss for Dutch Bros.
It’s not a stretch to say that these sites are expensive. Dutch’s per-unit cost for those 65 sites was $1.6 million, assuming it bought all 65. But the 51 sites it was going to buy in Nevada and Arizona were more than $2 million per location.
That is not cheap, not for leased sites. Dutch Bros would not only have to pay top dollar for those locations, it would have to remodel them under its image and would then have to pay rent to landlords.
It would have taken years for the company to generate a return on those locations.
That eliminates one of the business model’s biggest strengths: The low cost of opening new units compared with the sales they generate, especially these days.
Dutch Bros and 7 Brew both operate businesses with relatively low up-front costs and strong volumes of more than $2 million apiece. That theoretically generates stronger returns when the stores are open, enabling for a relatively quick payoff on that up-front investment.
By paying so much for the sites, the companies are lengthening that payoff period, betting that their strong sales will persist long enough to offset that investment.
It’s not necessarily a bad bet, because consumers really like their beverages. But paying higher prices now reduces profitability later on, especially once those locations begin to falter. Dutch Bros was willing to pay $105 million. The company’s net income in the first six months of the year was $53.5 million. While Dutch clearly had the funds to do it, that still illustrates just how much of an investment those locations were.
The problem is, Dutch Bros wasn’t going to pay $105 million for those locations. It would need to pay more than that, because 7 Brew came in with a bigger offer. Salad and Go then set an auction between the two companies, potentially setting the stage for a game of real estate one-on-one.
That forced Dutch into a tough decision: Does it take the sites or let 7 Brew overpay. It made the right bet.
We’re not necessarily saying that 7 Brew wasn’t right to step in with a better offer. But it is paying a lot for the locations, close to $2 million per unit overall. That includes $2.5 million for the most valuable 49 sites.
As a franchise, 7 Brew can ignore the cost of the leases, because franchisees are the ones who pay them. So the brand generally avoids Dutch’s unit-level profit challenges. 7 Brew also has the strongest unit volumes in the coffee sector right now.
But it’s also worth pointing out one thing: Both chains are getting a lot of business right now from customers wanting a piece of two of the hottest chains in the country. Yet roughly every other restaurant chain is getting into the same business. How long can these brands keep it up? And if sales start slowing, what do the economics of those costly locations look like?
The other question we have: Is this same competition playing out for sites across the country? Both chains are really eager to expand, which can often lead companies to make choices they later regret.