Real Estate - Valuation Multiples at Risk

By Robert Roman

09/01/18

Commercial car washing is often described as an equipment-driven business because equipment is required to clean vehicles, and that’s where the bells and whistles are.

Car washing is also a real estate business whether property is leased or the business owns its premises.

Car washing is also increasingly becoming more like the vending-machine industry due to the degree of automation involved and increasing lack of personality.

Car washing is also on the doorstep of moving towards going digital. As digital networks grow, the result will be a more uniform distribution of customers in a single market.

Arguably, these trends will affect valuations and real estate plays. Currently, pundits of car washing and commercial real estate say this is a very good time to build, buy, or sell a car wash.

REAL ESTATE MARKET

Real estate service providers say the commercial real estate market for retail ended 2017 on a good note. For example, cap rates for small cap commercial real estate markets averaged 7.2 percent in 2017. This was 10 basis points higher than in 2016, indicating that a likely upward momentum may be building.

According to CBRE U.S. Market Outlook, changing demographics, consumer expectations, and omni-channel retailing will continue to reshape retail and its real estate environment in 2018. CBRE analysts say the consumer trend toward off-price and discount retail will continue, with mid-range retailers seeking new ways to limit share losses to lower-priced players.

In the car wash industry, there is more small-cap commercial real estate today, but most companies/sites are small balance automotive properties. Small balance normally implies loan size of between $1 million and $10 million, and automotive use usually means a single purpose structure.

According to small balance lenders, the demand for these loans has exploded over the last 12 months flooding the market with liquidity. In the car wash industry, there has been a flurry of activity with new construction, primarily of express-exterior conveyor washes.

Repositioning going concerns has also been on the upswing. This includes retrofit and upgrade of full-service to express or flex-serve as well as self-serve conversions to express or pay-one-price format.

PAST LESSONS

Moreover, we have seen consolidators gobbling up locations by the handful. Business is good. However, we shouldn’t forget past lessons.

Fifteen to 20 years ago the previous attempts at consolidation crashed and burned for various reasons. Attempts at franchising did not produce great results either. We learned the car wash business is very resilient but not recession-proof. We also learned high income and earnings multiples are sexy but not sustainable.

At the end of the last construction boom, the equation to test the value of a self-service wash was to apply a multiple of between 4.0 and 6.0 against income (revenue). The equation for an express was a multiple of between 8.0 and 10.0 against earnings (EBITDA). Today, pundits suggest the current model for express is 8.6.

Conversely, I know self-serve owners that would be happy to get four times gross sales. The exception is locations that could support the higher-volume express format.

STILL EQUIPMENT DRIVEN

Car washing is still an equipment-driven business. Due to the high investment in equipment and its rapid tax depreciation, there are opportunities to shelter the taxable income and retain a good portion after tax.

However, there is good reason for this. Car washing — especially express — is a harsh environment. Washing hundreds if not a thousand cars a day, seven-days a week means the equipment is constantly bombarded by water, various chemicals, vibration, temperature changes, mechanical loads, etc.

If maintenance suffers, eventually so does finish quality and, ultimately, so do profits. Since value is a function of income, the lower the income, the lower the value.

How the presence of digital car wash networks may affect the real estate market is unclear. I suspect a more uniform distribution of customers in a single market would lead to lower prices.

As digital networks grow, it should be more difficult over time for any one firm to become the most important node in a network. Arguably, this might have a numbing effect on valuation multiples.

In the final analysis, it’s an interesting time to be involved with the car wash business.

 

Bob Roman is president of RJR Enterprises – Consulting Services (www.carwashplan.com). You can reach Bob via e-mail at bob@carwashplan.com.



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