Sale-Leaseback may Benefit Your Carwash

Why a Sale-Leaseback may Benefit Your Carwash

It is widely known that the initial development of a carwash is both time consuming and expensive. There is little to no return on your investment for several years and generating income from your operations will, most likely, produce cash flow that may or may not allow you to pay down the debt you acquired for building the wash. Therefore, carwash owners and operators should be aware of an option that some seasoned owners have used to help meet some of their debt obligations and even expand operations.

Through a process called sale-leaseback, owners who have invested a substantial amount of equity and cash into the hard assets of real estate may be able to recapture some or all of their investment and, in turn, focus on generating higher returns from their operations. The sale-leaseback is a financial tool that can be used by owners to allow them to sell the land, buildings and equipment of a carwash and simultaneously lease it back from the new owner. There are some obvious benefits to having a lump sum of cash from a sale, but you also should weigh the challenges of becoming a tenant.

Benefits of Ownership

The good news first. If you have developed a carwash from the ground up, you understand and appreciate the amount of time, effort and money that went into getting the wash operating. In some U.S. counties, the process may take several years to get the proper zoning and improvements approved. Environmental conditions need to be addressed, and the organization of engineers, general contractors, equipment distributors, etc., add to the pandemonium in reaching that ultimate goal of opening your bays for service.

Since you have committed the dollars to undertake this project, you expect to be rewarded with lines of cars waiting to use the newest and best carwash in the area. Even if you bought an existing wash that included the underlying real estate, the initial capital invested is hard to recapture in a short period. This is where a sale-leaseback may be able to help.

One of the main reasons most owners operate less than five locations is because they have a tremendous amount of capital tied up in their real estate. The processes to purchase and develop the land are expensive, and most believe that aspect of the business is just part of the overall investment.

You can examine the Forbes 400 list and see that real estate ownership is part of the portfolios for the majority of those listed. It is not a big secret that, over time, people will see appreciation in their commercial land, and operating a carwash on it may be a means to ultimately use the land for retirement planning.

Owning assets always helps one’s balance sheet, and the benefits of land ownership are vast. Owners can deduct the interest of their debt obligations as well as their operating costs. Additionally, owners can depreciate the real estate improvements, as well as the carwash equipment over varying terms — five to 39 years depending on an owner’s tax situation. Moreover, the owner is not paying rent. While the majority of operators will finance all or part of their carwash through varying types of loans, owners typically feel better about making a mortgage payment rather than a lease payment. The connotation of making a mortgage payment in lieu of paying someone else rent provides a psychological boost that the owners are ultimately contributing to their long-term investment.

In most cases, this may be true. But it’s up to owners to decide what their ultimate goals are for enduring the arduous process of carwash ownership.

Lease Advantages

When owners feel they may have maxed out available cash or would rather not use cash on hand to develop new sites, pay down debt or invest in their operations, they may want to consider a sale-leaseback as a viable option. First, though, owners need to understand what the ramifications are for such an ownership structure.

Typically, owners would like to achieve roughly 15 percent to 20 percent annual returns on their operations. Compared to a historical annual increase in real estate values of 3 percent to 5 percent, many would argue that focusing on the operations of the carwash is a better immediate business decision. Owners who take advantage of the influx of cash from a sale-leaseback also can benefit from the tax advantages afforded to renters.

Renters have the ability to deduct the entire monthly rent, as opposed to just mortgage interest, as well as all of the building operating costs, which would be considered business expenses. Typically, a sale-leaseback is structured where the tenant will operate the carwash under a triple net rent. That means the taxes, maintenance and insurance of the carwash are the responsibility of the tenant.

This allows the tenant to maintain complete control of the buildings and land, and enables operators to maintain the management of the buildings under the terms of the lease. In essence, if the tenant follows the lease, there should not be a need for the landlord to intervene. Carwash operators can focus their attention on what provides the highest immediate return — their operations.

Lease Structure

There is a plethora of ways to structure a sale-leaseback, and each individual operator will have a different set of circumstances. Typically, investors who seek sale-leaseback transactions want to be passive investors. Therefore, their underwriting of a specific location or portfolio of locations will include a number of factors they will examine closely.

First and foremost, investors will look at the intrinsic value of the real estate, just like the carwash owner did initially. They will ask, “What is this land worth without the carwash there?” Once that number is determined, they will look at the credit of the soon-to-be-tenant. The value of the property is affected by who is paying the rent, and the potential new landlord will want to know who or what that entity will be at the end of the day.

Therefore, carwash owners looking to entertain this type of transaction should be prepared for an evaluation of the last two years of their tax returns for the carwash or carwashes and/or audited financial statements. Both will provide potential investors answers to the financial viability of their potential new tenant.

Lastly, the value of the to-be-negotiated lease will actually have significance with a sale-leaseback transaction. The general rule of thumb is the longer the term of the lease, the greater its value. Being assured of a longer lease term will give a potential new real estate owner the opportunity to underwrite the value of the asset on a longer schedule, and knowing that the same tenant will be in place for the duration of the lease will give them the flexibility to become more aggressive with their pricing. Lease terms that are valued the highest are usually 15 years or longer.

But getting creative in sale-leasebacks is all part of the negotiation process. There isn’t one cut-and-dry formula that is used for each transaction. For instance, there have been clauses inserted into leases that allow operators to repurchase their assets at the end of a certain time increment or for a specific price. This gives the tenant more flexibility in the transaction.

Right of first refusals also are very common and allow tenants the chance to match any offer made for the property at anytime within the lease term. These are just a few examples of how a sale-leaseback can be structured for a carwash owner.

Operators should, at least, know about the availability of sale-leaseback transactions. It is a financial tool that owners can use in lieu of traditional bank financing or selling their businesses outright. However, it is important to explore the pros and cons of such transactions to see if the structure of the sale-leaseback will benefit the existing carwash business and overall investment goals.