Should I only buy a car wash if the real estate is included? How much more or less should I pay for a car wash depending on whether the dirt is owned and included? How is owning a car wash without real estate going to impact me as the new owner, both now and later on down the road?
Should I only buy a car wash if the real estate is included? How much more or less should I pay for a car wash depending on whether the dirt is owned and included? How is owning a car wash without real estate going to impact me as the new owner, both now and later on down the road?
Should I only buy a car wash if the real estate is included? How much more or less should I pay for a car wash depending on whether the dirt is owned and included? How is owning a car wash without real estate going to impact me as the new owner, both now and later on down the road?
Should I only buy a car wash if the real estate is included? How much more or less should I pay for a car wash depending on whether the dirt is owned and included? How is owning a car wash without real estate going to impact me as the new owner, both now and later on down the road?
These questions are asked quite often. What is not often discussed, and difficult to find information on, is the answers to them.
In this Car Wash Advisory ‘Learning’ segment, we will explore these questions and perform a holistic examination into what owning vs. leasing the real estate of a car wash really means. If you are a current car wash owner looking to learn more about why you would ever sell the real estate and retain the car wash business, we have a full separate piece and article on that as well.
Before diving in here, it’s important to establish that there are many factors that weigh into this. For our discussion, we will do our best to focus on more of the thematic and universally meaningful factors, rather than the infinite nuances that are wash specific and land-plot specific. But just bear in mind that every situation is unique.
Now, let’s get into it… real estate and car washes…
There are obvious, immediate, and direct impacts which owning the real estate and dirt vs. leasing the land have for the owner. The two most basic are paying rent and the cost to acquire.
At the most basic level, owning a business that rents or leases the land on which it sits requires the owner to pay certain ongoing costs which they otherwise would not have to. The largest of these costs is rent, but there are others. I’ll broadly refer to all these costs as “property maintenance costs”. These are the costs that are associated with owning or renting the property that are specific to just that, and not specific to the business on top of it. The largest components are insurance, property taxes, and utilities, in addition to rent.
Who is paying which of these “property maintenance costs” is largely determined by the property ownership structure – primarily whether or not the owner of the business owns the land as well, or whether the business owner leases the land from an owner / landlord. However, adding further complexity, there are also many varieties of lease structures which require certain of these costs to be paid by specific parties involved. Nuances in different lease structures are outside of the scope of this immediate discussion and topic, so we will be assuming for the rest of this that the two options are either (1) owning the land or (2) leasing the land through a standard triple net lease arrangement.
With this framework established, let it suffice to say that all else equal, leasing land causes the operator to have to pay ongoing repeating costs above and beyond what they would otherwise have to pay had they also been the owner of the land. And what this means, is that leased land car wash owners have smaller profit margins than that of owned land car wash owners. The difference of having to pay rent and other “property maintenance costs” simply increases operating costs and lowers profitability accordingly. But of course, and as you will see is a continuing theme throughout this entire topic and segment, nothing is fully one hundred percent one-sided and there is always a trade-off. The trade-off in this case, is a lower cost to acquire.
Although we will dive into this in far more detail later in this piece, just know that all else equal, buying (or selling) a car wash with the land warrants a larger price than it would if the land was leased.
A lower cost to acquire allows one to purchase a wash of scale and size that they may otherwise not have been able to buy. That, as a standalone, is certainly a positive. If a prospective purchaser has a fixed budget, and they want to acquire the highest volume / throughput car wash they can, this purchaser will be able to buy a higher performing leased land wash than that of an owned land wash (assuming all else equal).
But of course, there is another trade-off; ability to obtain financing.
Banks and lenders like having collateral. These financiers like knowing that even if the business fails, there is something left over that they will own and that they can sell to get some of their money back. In the case of car washes, the equipment doesn’t have much “residual value”… but the land does.
It is for that reason that most lenders are willing to lend more to car wash purchasers that are buying the land, in addition to the business. This is true in lenders willingness to extend capital in both the ways of frequency and quantity. This provides them with that desirable collateral and downside protection in the event the business is unsuccessful.
Please don’t take this as saying banks are unwilling to provide acquisition financing for the purchase of a leased car wash without the land. That is certainly not the case. In the instance of obtaining external financing to acquire a leased car wash, other factors are just weighted more heavily than they would have been had the land been being purchased as well. These factors essentially sum up to a combination of (A) faith the bank can place in the purchaser’s ability to successfully manage and operate a car wash business, and (B) the current historical cash flow of the car wash being bought. Now, even when the land is being bought with the business, banks and lenders still do use both of these aforementioned factors when deciding whether they want to lend and how much they are willing to lend. However, when the land is being purchased, the lender is able to place great weight onto the underlying land value, which is not the case when the owner is buying a leased business, which causes these factors to become more emphasized and important in this case.
The “faith” or confidence a lender will be able to place in the specific purchaser of a leased business is going to be just that – specific to the purchaser. Banks and lenders will be far more apt to lend, and lend more, if the individual has a prior history of operating car washes successfully in the past (as opposed to a first-time car wash owner). That said, banks and lenders are still willing to lend to first time owners even when the land is leased, they will just place more emphasis on that of the persons personal credit, assets, and business history outside the car wash space.
In terms of cash flows, cash flows are always an important factor for banks and lenders when greenlighting their participation in any sort of acquisition financing. However, for leased properties, cash flows become even more important. The reason for this, although obvious, is that without downside residual value in the event of failure, the current and historical cash flows provide reassurance that the new owner and purchaser will be able to make debt payments.
The most basic differences between buying a wash with versus without the real estate are expected operating profit, cost to acquire, and ability to obtain financing. All else equal, leased car washes will produce less profit for the owner, but will cost less to acquire, and can be slightly more difficult to obtain financing to purchase.
Although this all seems simple enough, and it is, there is more to it. Now that we have the most basic aspects out of the way, it’s time to explore the more interesting trade-offs involved with this perennial question all small business owners face.
Beyond the basics we just discussed, there is a second layer to this entire discussion, which comes with its own entire set of trade-offs.
We will be taking a different approach here. This section will be explored through the lens of defending the “commonly believed and stated” (yet rarely truly explained or defended) viewpoint; that buying a car wash that owns the real estate is just better and simply more favorable. Discussing this topic from this vantage will allow us to both understand why people say this, while also introducing the counterarguments, which are almost never discussed.
In addition to the most basic reasons and factors as discussed in the earlier section, owning the real estate in addition to the business is desirable as a purchaser for three main reasons:
(1) The Most Surface Level Reason - Simplicity, Confidence, and Comfort
(2) The Intermediate Reason - Optionality
(3) The Deepest Reason - Downside Protection and Liquidity
(1) Problems with Leases and Landlords Can be Avoided
(2) Optionality is Good – But at What Cost
(3) Downside Protection and Liquidity
Common opinion is that owning the land is better than leasing it. That’s what most people will say. There are certainly several benefits to owning the land. But there are also some drawbacks as well. Although the advantages of owning the business without the land are rarely spoken about, there are pros and cons to both - this is not a “right” or “wrong”. This is a trade-off. Along with owning the real estate comes real estate pricing risk, the requirement to tie up more capital, and generally speaking lowering your expected return per dollar invested (all else equal). It’s a trade-off. Sometimes the decision is made for you, as you may be unable to secure capital or financing without the real estate being part of the collateral pool. But in many cases, it’s a choice, and in those cases, it’s a trade-off.
Buying a car wash with or without the land, in my opinion, is not a question that appropriately warrants a black and white answer. The truth of the matter is, reality is not the same as theoreticals. There was one enormous assumption which was adopted throughout this entire discussion; that “all else is equal”. The truth is, in reality, all else is never equal. Markets aren’t deep enough, and liquidity is not large enough, for true efficiency to ever be achieved. The car wash market, like all brick and mortar privately owned small business markets, is an inefficient and bespoke two-sided equation. There are situations where lease terms are so favorable, that a prospective buyer with a certain set of matching goals would be crazy to not purchase it; regardless of whether they generally prefer the notion of owning the land. There are also situations where the owner is trying to get so much value for the land which they own, in addition to the business, that a purchaser just can’t rationalize purchasing the business and land; the numbers just don’t make sense.
It has always been my advice that prospective owners and purchasers be initially flexible in terms of land ownership. A car wash purchaser who approaches acquisitions with rigid criteria around land ownership immediately prohibits themselves from capitalizing on opportunities which may otherwise be perfectly fitting for their goals. There’s a price for everything, and the pricing of the wash should be reflective of land ownership (or lack thereof), lease terms, and the property management situation.
Now we are left with the remaining question of how to attribute value and appropriately price a wash with versus without land. Well, we have an article coming out soon on that topic which will walk through this in detail, with real numbers, and with real washes. Stay tuned – and don’t forget to follow us on social media to be notified when this piece comes out.
If you are a real estate buyer or investor interested in car wash real estate, we’ve written a piece specifically covering the car wash real estate asset class from the buyer’s perspective as well which goes far more in depth from that angle.
