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(Bloomberg) -- In 1995, the restaurateur Jonathan Morr opened a 3,800-square-foot noodle shop called Republic on Union Square West in New York City, paying an annual rent of $220,000. “The rent was relatively inexpensive for what it was,” he said. “But remember, when I opened, Union Square was very different than it is today. There was very little there along with the drugs in the park. At the time we were taking a risk.”
Twenty-two years later, Union Square has been gentrified beyond recognition. It's home to a Whole Foods supermarket and an apartment building whose penthouse sold for more than $16 million. And now Republic is on its way out. Morr said he expects to close the space by the end of 2017, three and a half years before the lease expires. “It’s just a fact of life—there’s no way that we’re staying there after the lease is up,” he said. Taking advantage of an impatient landlord, Morr plans to leave the space early and will "split the difference between what [the landlord] gets from us and what he’ll get from the next tenant, and call it a day," he said.
Republic is joining a slow but distinct restaurant exodus from the area, following in the footsteps of Danny Meyer's Union Square Cafe, whose prohibitively high rent forced it to search for a new space in 2015. "There's no such thing as a New York restaurant that's immune to real estate," says Richard Coraine, the chief of staff for Union Square Hospitality Group. He notes that the original, 1985 rent for USQ was $4,500 a month. A roughly fivefold increase over 30 years is what prompted Meyer to move his beloved restaurant to its current home, on a corner a few blocks northeast of Union Square.
The space currently occupied by Blue Water Grill, also on Union Square West, is being formally marketed to potential tenants for close to $2 million a year, according to Leslie Siben, a principal at LB Realty Services LLC, who has been approached about the property. "There’s no way there won’t be a lot of turnover there as tenants who have been there for a really long time face the notion of 'fair market value,'" she said, adding that the astronomical rents are an unsurmountable barrier to many potential food service occupants. "Think about those numbers: That area is going to have to become a food desert, [because] no normal restaurateur with any experience would touch that as it is now."
"The rent at this location was just recently raised to well over $2 million," wrote a spokesperson for Landry's, the owner of Blue Water Grill. "Even though this is one of New York's most successful restaurants, it can't be successful with a $2 million plus rent; therefore, we will be relocating within the next year. In the meantime, it is business as usual."
Deserts Where There Were Once Oases
Rising rents and real estate turnover are hardly new phenomena, but Union Square West—along with other desirable residential areas of New York such as Smith Street in Brooklyn and lower Bleecker Street in Manhattan—have seen their rents become so prohibitive that most of their restaurants—with the exception of chains, or flagship “loss-leaders”—are forced to move elsewhere.
Twenty years ago, Union Square West represented the most dynamic culinary blocks in New York. Republic was a very early pan-Asian restaurant with a focus on noodles and bowls, where the bestselling Pad Thai cost about $6 and the most expensive dish was marinated salmon on rice for $8. Blue Water Grill, set in a former bank, specialized in grand seafood tableaus. The Coffee Shop Bar, which opened in 1990, featured towering models serving mojitos, plantain chips, and pressed sandwiches late into the night. (Coffee Shop Bar looks like it will remain open, but the original Heartland Brewery, which had lived next door to Republic since 1995, closed on New Year's Day 2015.) For people looking for future food trends around the city, Union Square West was the place to be.
Now the storefronts around those restaurants have been taken up by Starbucks and Dylan's Candy Bar, and rumors are that yet more spaces will soon have a For Rent sign out front. “When rents go up, it makes the viability of restaurants harder,” said Stephen Sunderland, the senior managing director of Optimal Spaces, a tenant broker in the city. “You have to think of restaurants as artists, or neighborhood pioneers,” he explained. “They come into a neighborhood, it becomes hip, and that’s the source of their demise,” he said. “They create the trends that undo them.”
Restaurant leases tend to be on 15-year terms, which means that to outside observers, a "food desert" can appear to creep up without warning. A neighborhood is seen as up and coming, and exciting restaurants begin to move in. Roughly two decades later, when leases come up, prices spike because gentrification followed, and those restaurants are forced out. The net effect is a replacement of independent food entrepreneurs with a smattering of chain restaurants .
“What happens to a retail neighborhood where there’s nowhere to eat?” asked Sunderland rhetorically. “The desirability goes down” for future residents.
Here’s the Math
Morr, the co-owner of Republic, said that about 80 percent of his revenue comes from food and only 20 percent from alcohol, which is traditionally much more lucrative. “Republic was about the food, not the alcohol,” he said, which meant that to pay rent and turn a profit, it had to serve a vast number of dishes a day. “The volume was tremendous,” he said. “Like 1,200 bowls [of noodles] a day” to diners who crowded into long bench tables and shuffled in and out relatively speedily.
For restaurants that lack the space or the ability to turn over customers as quickly, the math is even more daunting. “The simple math used to revolve around rent being 10 percent of sales at most,” said Robert Guarino, the manager partner of 5 Napkin Burger, which has four locations in New York, one of which is around the corner from Union Square.
“So take the example of a $1.5 million annual rent," Guarino explains. "That means you need to make $15 million a year in sales.” Break it down on a daily basis, he said, and assuming the restaurant is open 365 days a year, you need 822 customers a day spending $50 per person, on average, or, if the fare is cheaper, 1,644 people a day spending $25 a day, on average. “It's not easy to get to $15 million in sales by just serving lunch and dinner in a standard sit-down format,” he said.
Laurent Gras, a chef and consultant who opened the restaurant L2O in Chicago, said the financials can be punishing when it comes to fine dining. “You’re supposed to make your rent in one night,” he said, meaning that “if you’re talking a $1.5 million annual rent and your average check is $100, that’s still 400 covers a day.” (The math: $1.5 million divided by 365 days is $4,100 a day.)
For Morr and Republic, recent rent increases represented a tipping point, whereby he was profiting less from his business than his landlord. “When we opened Republic, we made six, seven, even eight times what the landlord made,” he said. Now that's changed dramatically. “Even if you do the math and make money a little bit, you don’t want to make less than what the landlord’s making."
Marty Feinberg, whose company Winner Communications owns Republic's building, noted that taxes have gone up dramatically on the building since the restaurant first signed its lease. "Taxes have gone from $90,000 to $476,000," he said. "Yes, it's gone up in value since I bought it in 1983, and rents have escalated dramatically, but people are paying them," he continued. "And people are paying because they can still make money. People aren't renting space to lose money."
Not many neighborhoods in New York or Brooklyn are left to gentrify. As a result, Sunderland, the broker, said that both landlords and restaurateurs are looking for alternative business models. One of the most appealing, he said, is food halls: “They lower the barrier to entry,” he said. “Instead of spending $300,000 to $500,000 in fixed costs, they’re probably paying a slightly higher percentage of their revenue, but they can open in a food hall for very little money. It’s limited risk, both incoming and outgoing: If the landlord takes someone and no one wants their food, after a couple of months they can just say, ‘hey, I can’t pay my rent,’ and leave.”
Because restaurant leases are on a 15 year cycle—a virtual eternity in the ever-changing character of a neighborhood—the impact of rent increases can last for decades. “There are always trends and countervailing trends,” said Sunderland. “Look at Madison Avenue: How many restaurants are there? Very few. And chances are the ones that are there are equity owners in the buildings. You don’t see new restaurants moving into that area.”
"Everyone isn't leaving," said Feinberg, the building owner. "But even if they do, in due time rents would stabilize at a level that people feel comfortable with, and they'll all fill up again. It's not going to be the end of the neighborhood."
Morr, for his part, isn’t sure if he’ll reopen Republic once he leaves. “Listen, if the rents weren’t that crazy, we could have stayed there forever,” he said. “Maybe we should all just become landlords instead.”
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