Are you sure you know how to calculate the ROI on your next project? Are you confident of the best way to finance it? Whether it’s adding a new pay wax, or a complete site remodel, it’s common sense that you need to understand what return you’ll receive on your investment before opening your checkbook, but where to start? On paper, calculating ROI is simple. Take the gain of an investment, subtract the cost, and divide the total by the cost of the investment. ROI = (gains-cost)/cost. That gives you a nice percentage that, in theory, you can compare to other investment opportunities. But how do you predict the gain? And what about time? In reality, ROI is a historical measure, meaning it calculates all the past returns, so how exactly will it help you decide whether to buy a new wax applicator? Confused? Me too. I’m not afinancial expert, nor do I claim to be one. I have, however, owned and operated car washes for over 30 years. In that time, I’ve assembled a method that helps me decide if a site renovation or equipment upgrade will leave me with more cash in my pocket than it costs, and how long that will take. Basically, making sure the investment passes the “smell-test” of making more money than putting my cash in the bank, or in the market. Interested? Let’s take a look.
Understanding Annual Cash-On-Cash Return
When evaluating an upgrade to a car wash property it’s prudent to look beyond the total project cost. At a car wash, cash flow is king, and cash-on-cash return simply calculates the income earned on the cash you invest. It’s the ratio of annual before-tax cash flow to the total amount of cash invested expressed as a percentage. Cash-on-cash return = the difference in your net annual pre-tax cash flow/total cash invested. So for example, if you deposit $10,000 in a bank and miraculously find one to give you a 3 percent return, in one year you’d have $10,300. That means $10,300/$10,000 gives you a cash-on-cash return of 103 percent. Think you can get 7 percent in the stock market? That would give you $10,700 at the end of the year. Divide that by your original $10,000 investment for a cash-on-cash return of 107 percent. Now that you’re armed with a basic understanding of cash-on-cash return, let’s take a look at how it applies to a car wash business with sample numbers from an actual project at a wash I owned.
Calculate Total Cash Invested
Imagine a sales rep visits your site to sell you on some new on-line polishing system. It’s important to look beyond the equipment they’re selling. Let’s say you’re quoted $65,000 in application, buffing, and drying equipment. To use this equation you must include every dollar you’ll invest. That means include all pumps and other support equipment to make it happen. For this example I’ll add another $5,000 to the bill. To be successful, you’ll need signage, a new menu, and LED lighting to promote it; I’d add at least another $5,000. Don’t forget installation and site work. I’ll add an additional $10,000 for that. So for this example, the total cash to be invested is $85,000. Remember this number; it’ll be the bottom number in our cash-on-cash return calculation later on. My advice is to use this for what it is, a calculation to determine the anticipated return on an investment, and don’t skimp. It’s unlikely a customer will pay for a premium pay wax from a dirty looking building. Most investments to increase your dollar-per-car average involve elevating a customer’s onsite experience. If you need to invest in paint, landscaping, or other facility improvements to make the project work, include it as part of the total cash you’ll invest before calculating your projected annual before-tax cash flow, which is what we’ll look at next.
Calculate Annual Before-Tax Cash Flow
The concept is straightforward. First, forecast what you expect annual before-tax cash flow to be after you make your investment; in the example I’ll review, the future cash flow is projected to be $407,785. Next, subtract your before-improvement cash flow, which in this case was $188,185, for a net pre-tax projected cash flow of $219,600 after adding the new polishing system. Divide that number by total cash invested of $85,000 for a cash-on-cash return of 258 percent. I’ve explained this math to many operators over the years. Some look at me in disbelief. Others run out and upgrade their washes. The tricky part is the entrepreneurial task of projecting future revenue as the result of an improvement. As former United States Secretary of Defense Donald Rumsfeld once stated, “There are known knowns; there are things we know we know. We also know there are known unknowns; that is to say we know there are some things we do not know. But there are also unknown unknowns — the ones we don’t know we don’t know.” To me, that statement nicely sums up the fact that each car wash property, market, and management team is a unique bundle of unknown unknowns. Only the owner of the business can predict future returns. That said, here’s a snapshot from my own experience that you can use as an example when plugging in your own numbers (see page 8).
Calculate Predicted Future Revenue
This isn’t rocket science. In this example, I anticipated my volume would stay at 10,000 cars and the distribution of customers from the base and top packages would remain the same. I calculated my cost would go up from $.40 to $1 per car in chemistry, water, and utility for the 4,500 cars receiving additional services in the top three packages for an increase of $2,000 per month in operating expenses. All other fixed costs remained the same, and I increased the price of the wash packages accordingly to account for the premium service.
Plan for Known Unknowns
I hope this gives you a broad place to start when evaluating the potential return on your next project. The cash-on-cash ratio has served me well over the years. There are of course limitations. It shouldn’t be the only measure you consider, but I’ve found nothing better to quickly determine if a potential investment warrants a closer look. Bear in mind, it doesn’t take into account appreciation or depreciation. Neither does it consider volume, market conditions, your particular tax situation, or other risks associated with the underlying business. I used this ratio, for example, to support a decision to upgrade my equipment early in 2008, shortly before the economy collapse, and it took years to settle into the projected revenue. In 2013, at another wash, these projections turned out to be woefully conservative. I hope you have fun with this formula. Try plugging in lease financing instead of cash, or adjust your projection up or down depending on your aversion to risk. After decades of trial and error, occasional wins, and some losses, I’ve sometimes wished I were told about this rule of ROI calculation early on; consider yourself told, but proceed with caution.
Good luck and good washing.
Anthony Analetto has over 35 years’ experience in the car wash business and is a partner at SONNY’S The Car Wash Factory. Before coming to SONNY’S, Anthony was the director of operations for a 74-location national car wash chain. Anthony can be reached at (800) 327-8723 x 104 or at AAnaletto@SonnysDirect.com.