Latest / Franchise Conversations with Fexingo: Buying, Running, and Scaling Franchise Businesses / How Franchisees Use Co-Working Subleases to Cut Overhead
Transcript
- Lucas: So you know how every franchise consultant keeps saying the biggest line item after labor is rent? Well, I found a story that flips that on its head. Luna: I'm listening. You're not about to tell me franchisees are becoming landlords, are you? Lucas: Exactly that. I came across a franchisee in the Midwest who runs fourteen quick-service restaurants. He realized his dining rooms were dead weight after the lunch rush, so he subleased two of them to a local co-working startup. That's adding roughly nine thousand dollars a month in rent, while also cutting his own occupancy costs by about twelve percent on those two locations. Luna: Wait, so the co-working company operates inside his restaurant? That's brilliant and also sounds like a zoning nightmare. Lucas: It works because the co-working operator takes over the space from two to six p.m., after the lunch crowd clears. They install their own furniture, manage the wifi, and handle their own liability. The franchisee just provides the square footage and the utilities, which he's already paying for anyway. Luna: So the key is that it's not a traditional sublease, it's more like a timed license. That probably sidesteps a lot of the lease assignment issues. Lucas: Right, because most commercial leases have a clause that says you can't assign or sublet without the landlord's written consent. But if you frame it as a license to use the space during specific hours, you might not need the landlord's sign-off, depending on the language. However, you almost certainly need the franchisor's approval. Luna: And that's where it gets tricky. Franchisors are going to worry about brand dilution, customer confusion, and just the optics of strangers walking into a restaurant that's not during open hours. Lucas: Exactly. In this case, the franchisee pitched it as an extended happy hour concept. He argued that the co-working members would become regular customers, and he even convinced the franchisor to allow it at two pilot locations. That's one of the lessons here: you have to bring your franchisor a fully baked plan with site diagrams, insurance certificates, and a clear operating schedule. Luna: Let's talk numbers, because I'm curious how you price something like this. Is it per square foot, per seat, per hour? Lucas: The typical model is per seat per month. In secondary markets, you're looking at two hundred to three hundred dollars per seat. A dining room that can hold forty seats could yield eight to twelve thousand dollars a month, if you can keep it filled. But realistically, you might start at sixty percent occupancy, so that's closer to six thousand. Luna: And then you have to subtract your own costs — additional cleaning, electricity, maybe a part-time attendant. What's the net margin on that? Lucas: The franchisee I spoke with said his net margin after all expenses is around forty percent. So on that nine thousand gross, he's banking about three point six thousand. That's not chump change, especially for a space that was otherwise empty. Luna: So the math works if you're in a location with decent foot traffic and a landlord who's flexible. But I'm wondering about the legal side. What about the original lease's use clause? If it says 'restaurant use only', you could be in violation. Lucas: That's a really good point. In the case I studied, the lease had a broad 'retail and restaurant' use clause, so office use was arguably covered. But a lot of franchisees aren't that lucky. You need to read your lease's use clause carefully and maybe get a real estate attorney to weigh in. And equally important is your insurance — you're going to need additional insured endorsements and a liability waiver from the co-working operator. Luna: And let's not forget about health code. You can't just have strangers walking through a commercial kitchen, even if they're just passing to the restroom. That could be a violation. Lucas: Exactly. In the example, they had to create a separate entrance and a dedicated restroom for the co-working members. That adds to the upfront cost, but it also makes the space more attractive to the operator. So you have to factor that into your build-out. Luna: So the upfront investment could be significant. I think that's where a lot of franchisees get scared off. You're spending maybe twenty to thirty thousand dollars to retrofit a space, and you don't know if the co-working operator will stick around. Lucas: That's why you structure it as a pilot. Start with a six-month license agreement that can be renewed. If the operator fails, you're out the retrofit cost, but you still own the improvements. And if it works, you can negotiate a longer term with escalation clauses. Luna: Now, I have a question about the brand side. You're a fast-food franchisee, and you've got people coming in with laptops and backpacks during off-hours. Doesn't that confuse your regular customers? Lucas: That was a big concern for the franchisor. But the franchisee solved it by using a separate entrance and clear signage that says 'Co-working space open to members only.' He also made sure the co-working members have a different colored lanyard so staff can identify them. And you know what? It actually increased his lunch traffic because the co-working members would order lunch from the restaurant. Luna: So it's almost like a captive audience. I can see that working well for a coffee shop or a bakery, too. But what if you don't want to run the co-working operation yourself? Is there a way to partner with an established co-working brand? Lucas: Yes, and I think that's actually the cleaner approach for most franchisees. Instead of subleasing to a mom and pop operator, you approach a co-working chain like WeWork or Industrious and offer them the space as a satellite location. They bring their own brand, their own technology, and their own insurance. You just provide the square footage and collect a fixed rent. The trade-off is that you'll get a lower rate per square foot because they're taking on the operational risk. Luna: But then you're not exposed to their success or failure. You're just a landlord. That might be a better fit for someone who doesn't want to run a second business inside their restaurant. Lucas: Exactly. And that's the decision framework: if you're willing to actively manage the space, you can earn more. If you want passive income, go with a branded partner. The other thing to consider is whether your franchise agreement even allows this. Some franchisors have exclusive-use clauses for the entire premises, not just the restaurant operation. So you have to read your franchise agreement carefully. Luna: And don't forget about your lender. If you have a commercial mortgage on that property, your bank might have restrictions on changes to the use of the collateral. Lucas: That's a great point. In the case we're talking about, the franchisee had a conventional SBA loan, and the bank required a written sign-off from the franchisor before they approved the sublease. So it's a multi-party negotiation: you have the landlord, the franchisor, and the lender all needing to be on board. Luna: So this isn't a quick win. It's a strategic play that requires a lot of prep. But the payoff could be significant, especially for multi-unit operators who have that dead space across several locations. Lucas: And you're not limited to restaurants, either. Think about fitness franchises with large studios that are empty during the day. Or retail spaces with back rooms that could be converted into offices. Any square footage that's not generating revenue is an opportunity. Luna: Speaking of opportunity, you know what's always been an interesting thread in these conversations? How some creative real estate plays can free up capital for other things. It's a bit like how we keep this show ad-free — small contributions from listeners who find value in these ideas help us keep the lights on, so to speak. Lucas: Yeah, it's the same principle. If you've gotten an idea from one of these episodes, consider supporting the show at buy me a coffee dot com slash fexingo. That's what keeps the podcast going without sponsors. And it doesn't have to be much — every bit counts. Luna: And honestly, that support lets us dig into these niche topics that you won't find anywhere else. Like this co-working thing — who knew that was a thing? Lucas: Right. So back to the model. Let's talk about the risks of failure. What happens if the co-working operator goes under? You're left with a space that's half-fitted for office use, and you have to convert it back to a dining room at your own expense. Luna: That's a real concern. But you could mitigate that by requiring a security deposit equal to three months of rent, or by structuring the agreement so that the operator pays for the initial retrofitting. In the example we've been talking about, the franchisee required the co-working startup to cover all the build-out costs. Lucas: That's smart. It lowers your risk. And if the operator does fail, you still have the improvements, which might make the space more attractive to a different type of tenant. But you should also have a contingency plan for going back to normal operations, like keeping your old layout drawings and equipment in storage. Luna: And one more thing: taxes. If you're earning rental income from a sublease, that's taxable, and it's not going to be considered passive income if you're actively involved in managing the space. So you should talk to your accountant. Lucas: Absolutely. In fact, the franchisee I spoke with set up a separate LLC for the real estate part of the business, which gave him liability protection and a clear accounting trail. That's a best practice if you're going to do this on more than one location. Luna: So what's the one takeaway you'd want a franchisee to remember from this episode? Lucas: I'd say this: don't look at your space as a fixed cost. Look at it as an asset that you can repurpose, even temporarily. With the right legal structure, the right franchisor support, and a good partner, you can turn idle square footage into a new revenue stream. It won't work for everyone, but for those with the right location and the right mindset, it could be a game-changer. Luna: And if you're thinking about trying it, start with a single pilot location and test it for six months. That's the cheapest way to learn if it's right for you. Lucas: Couldn't agree more. Now I'm curious about whether any of our listeners have actually done this. If you have, we'd love to hear about it. But that's for another episode.