Investing In NEW Coin-Op Carwashes

reprinted from Fall/96

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Another Look At Coin Op Carwash In the article titled "Investing In New Self Serve Carwashes" (Spring 1996/SSCWN) readers found plenty to chew on. One, for example, commented that he had enjoyed the article ... but "had read shorter nov els!" And yet while the article may have been a bit too much for some, it was not enough for others. Paul Larner called from the Baltimore area and praised the article ... as far as it went. He noted that the analysis had at least one omission. The Rates Of Return presented in the article seemed to indicate that the carwash investors paid cash for carwashes. But most folks, of course, make a down payment and borrow the rest of the money from a bank or some other lender. Mr. Larner says that you cannot generalize about the Rates Of Return from borrowed money and a cash investment. The actual Returns will be different. We erred in not explicitly explaining those differences.

Therefore, in this follow up, Pat gives us an analysis of Rates Of Return on carwash purchases which are done with reasonable down payments and borrowing. This should be relatively painless. I asked Professor Crowe to spare us the complicated mathematical details. And I reminded him of these words, "the hallmarks of good writing are clarity and brevity" a quote I pulled from one of Crowe's own books ("How To Teach School And Make A Living At The Same Time"). The points made are certainly clear. And brief?

Well, uhh ... lets just say we're "batting 500" on this go 'round. JJJ Yes borrowed money is one of the keys to carwash success ... especially if the measure of suc cess is a great Return On Investment. Most new carwash projects depend heavily on borrowed funds. So do most sales of existing washes. Few new ones would get built if the projects had to be all cash and few existing washes would ever sell with out the aid of borrowed capital.

Borrowed money makes it all happen. A "back to square one" primer on borrowing and carwash investing seems appropriate. And so ... Down To Basics Here's a most basic rule: It makes good business sense to borrow money when the borrower has good reason to believe that he can invest the borrowed funds and earn a higher Rate Of Return (Yield) than the rate the borrower has to pay the lender for the loan. Borrow money from the bank at 10% interest. Then invest the borrowed funds in a carwash (or anything else) which pays a Rate Of Re turn well over 10% and you're in "Profit City". Of course, there's a flip side. If the rate paid to borrow is higher than the Rate Of Return on the project you're in real trouble.

Borrow from a lender, for ex ample, at 12%. Invest that money in a project which only yields 8% and you're in "Loss City". And the more you borrowed, the more you lose. Before offering my analysis of the Rates Of Return on "leveraged situations", let me make one quick reference to the first part of this series ("Spring 1996"). I suggested that potential investors in carwashes aim at a Rate Of Return of 20%. The risks inherent in car washing justify it. The greater the risk, the greater the reward. But there were readers (including my editor) who questioned my insisting on no less than that level of return. Those questions rose out of some uncertainty as to just how "my" 20% was achieved. Was it ... ... After paying debt service or before ?

A 20% return on just the invested down payment ? Or was it a return on the total assets? What about scheduled, "tech nical" depreciation, while the land (and quite possibly the business itself) appreciates in the value? Did it factor in the "cost" (value) of the owner's time invested in maintenance and management? I welcome this opportunity to address those questions and do some further analysis of carwash bor rowing. I'll demonstrate that expecting at least a 20% return is reasonable ... and not at all "greedy". But first things first.

As indicated above (and as we'll explore later in the article) there are a number of approaches used to compute a Rate of Return ... certainly "more than one way to skin this cat". So let me begin to ex plain the basic criteria of my approach to determining the pay off on borrowed money. It's really not at all unusual ... in the main. "Healthy Spread" The highest rate I have ever paid for a carwash loan was close to 14%. But I've refused to borrow at rates above that because I just could not do so confi dently with absolute assurance that particular car wash investment would pay off at a comfortably higher rate.

Remember the late 70's when businesses found themselves paying loan rates to banks in well in excess of 20%?!! These were mostly Adjustable Rate loans ... as are the majority of carwash loans today. I'm forced to conclude that expecting a 20% Rate Of Return on carwash investments is reasonable and a prudent way to the lower risk of a trip into "Loss City". I'm determined to maintain a healthy "spread" between the rate paid on the borrowed funds and the rate these funds are apt to earn when invested in a car wash.

The narrower the spread, the closer one edges to potential losses even more so when that money is borrowed at an adjustable/variable rate. The question that follows is "just what is a healthy, reasonable spread?" It depends ... I've sought the advice of CPA's and investment counselors experienced in the nitty gritty of self serve carwashing. One would not even try to nail down a specific number. He maintained that it's "subjective" a matter of an individual's "personal appetite for risk". Different people perceive risk differently. For some, risk is just another word for "opportunity" while others are paralyzed at just the thought of it. Another expert (a CPA, attorney and carwash owner) for whom I have great respect was willing to be specific. Factoring in the returns on a variety of investments (from risk free bonds to the stock market) he says that a "pre-tax, non leveraged rate of return should be in the high teens ... perhaps as high as 20%.

As for the spread 8% to as much as 10% is reasonable." Now let's analyze what can happen to rates of return when borrowed money is involved. The calcu lations are a bit more complicated than a cash deal. But the following example should make it quite clear: We could buy an existing wash and apply the same method. But for this example, let's consider build ing a new 8-bay self service wash for $400,000. Your projections show that after you pay expenses you will have $80,000 profit per year. Most of us would call that the "Profit Before Debt Service and Depreciation". You should be aware, however, that bankers do seem to prefer the term "Net Operating Income" when dis cussing loan proposals.

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