I recently read an article about a real estate investment brokerage that scooped up three car washes on the national sale-leaseback market. Their goal was to transform each location into a single-tenant net-leased car wash.
That deal apparently caught the attention of several other readers because I have been fielding a lot more questions from car wash owners as to how these transactions work.
You’re essentially selling the physical structure and real estate your car wash sits on and then leasing the business back from the buyer. Sound confusing? It’s really not that complicated.
Sale-leaseback transactions, while not right for everybody, are becoming attractive alternatives to traditional financing for both investors and sellers. For one, leases are typically long-term — 15 to 25 years with renewal options very common.
The seller frees up assets by unloading real estate but retains the option to operate the wash — and generate income — without any changes to infrastructure or brand offerings.
With more businesses ditching stores in favor of Internet-based retail, developers and private equity investors are looking for Internet-proof tenants to occupy spaces in their shopping plazas and adjacent areas.
Internet-proof businesses offer unique customer experiences not available online. Car washes, organic grocers, coffee shops, urgent care centers, gyms, and restaurants are all examples of what’s considered Internet-proof. They are attractive to commercial land developers not only because of their inherent Internet-resistance but also because they tend to provide reliable revenue streams.
Last year, sale-leasebacks accounted for about $3.6 billion or 2 percent of all commercial real estate transactions. Investors view buying real estate with a concurrently stable business already operating on it as a fairly safe way to hedge against uncertain economic conditions, while at the same time unlocking higher land value.
For car wash owners, sale-leasebacks can free up capital that can be invested in other car washes or banked. They can also be a creative way to come up with retirement funds or introduce heirs to the business without significant financial entanglement.
But before handing over the deed to your wash, you need to know the ins and outs of sale-leasebacks and whether they make sense for growing your business.
There may be times when a wash owner wants to control the business and use the property without actually owing it. To that end, a sale-leaseback transaction may be a good option to raise cash. There are other benefits.
The business looks better on the books due to lighter balance sheets. The car wash no longer shows up as a liability. That alone can show creditors and others interested in the business’s debt obligations a higher ratio of assets to liabilities on the books. This also makes it easier for sellers to obtain loans in the future for other businesses or to improve operations at the existing car wash.
A sale-leaseback raises cash quickly. The seller has access to capital that was tied up in the now leased car wash. The amount of cash freed up tends to be more than if the seller obtained loans similar to HELOCs or other kinds of secured credit subject to variable interest rates and liens.
Access to alternate financing means no risky loan provisions like balloon payments, appraisal fees or other steep financing costs. You could almost equate a sale-leaseback as being similar, not the same, as a no-interest or low-interest loan. Likewise, if the bank offers the buyer a low-interest loan, they may pass that on to you in the form of lower rent payments.
Sale-leasebacks are highly attractive to some buyers looking to invest in Internet-resistant businesses with reliable tenants, preferably with a solid business already in place. The incentive to buyers transacting these kinds of deals is that they are less risky than investing in a business that hasn’t broken ground.
The buyer can rely on much more stable income streams because lease terms often span several decades. Sale-leaseback buyers also realize any appreciation in land value and can supplement the transaction with conventional financing should they need it in the future.
Buyers enjoy higher rates of return. By taking advantage of lower EBITDA (earnings before interest, taxes, depreciation, and amortization) multiples paid when buying the assets and the higher EBITA multiple gained from the sale of real estate, buyers can pocket that money and invest it in other properties.
Flexible lease terms are much more doable. It’s much easier to evict a seller and find another tenant if he defaults on lease terms. The process is much more clear-cut and quicker than dealing with defaults on mortgaged properties.
Sale-leasebacks are highly attractive to land developers looking for Internet-proof tenants that provide unique customer experiences not obtainable online. Still, sale-leasebacks involve a higher degree of research into the financial situation of each party. This reduces the likelihood of the buyer getting a tenant that will go into default.
Enter into a sale-leaseback cautiously. Real estate values fluctuate over the short term but generally go up over the long term. Consider if it’s worth losing equity in the real estate.
For example, toward the end ofWorld War II, when the first conveyorized car wash opened, real estate in New York City was $8 per square foot. Today, it’s valued at over $1,700 per square foot. What seems like a good deal today may turn out to be financially foolish over time.
If land values multiply significantly and your goal is to expand operations over multiple sites, or leave the business to your offspring, sale-leaseback might not be the best decision.
Are you considering a sale-leaseback due to financial distress or other worries about cash flow? If so:
• Have you explored other viable ways to raise cash?
• Are you employing best practices in operations?
• Did you find ways to streamline and identify areas where labor is wasted?
In other words, it might make more sense to find other ways to button up your business before seeking creative financing options to raise cash.
For buyers, there is also the EBITDA factor. It’s a measure of a car wash’s profitability and a number investors will target before deciding on sale-leaseback terms, if they are interested in buying your wash.
I recently wrote about EBITDA as an important factor you should consider when deciding whether to build on a new site or buy an existing car wash nearby. With a sale-leaseback transaction, it’s important for both parties to crunch numbers to arrive at a fair selling price.
Sale-leasebacks can be beneficial to both parties. Once a seller is approved for the transaction, the buyer picks up a viable asset — at a fair price — and signs a tenant up for a long-term lease with a reliable income stream in the form of rent.
With the transfer of asset ownership, the seller gains immediate access to cash to bank or reinvest in growing his wash while still remaining an active player in the car washing community.
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.