Investing In NEW Coin-Op Carwashes
ROA Versus ROI

reprinted from Fall/96

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Regardless, this particular asset (if it performed up to projected expectations) would produce a Rate Of Return I believe a prudent investor should expect: Di vide $80K (Net Operating Income) by $400K (Value of Asset). Then multiply that quotient by 100 and you will get 20%. 80,000 ÷ 400,000 = .2 x 100 = 20% It makes pretty good business sense to build this wash if you're satisfied with a 20% Rate Of Return On Assets ... "ROA" in banker's code.

But hang on. I'm about to show you how to get a Rate Of Re turn that's well above 20%. Just take note of one fun damental distinction the difference between Rate Of Return on Assets and Rate Of Return on Investment. Return On Assets is based on the current value of the carwash (the asset). Return On Investment, however, is based on the amount of capital the owner has invested in the asset, namely, the down payment . The calculation above assumes the carwash owner paid cash and owns this asset free and clear of any debt.

But now look at what happens to the yield on this wash if the owner borrowed part of the money. Let's suppose the builder of this $400,000 self serve makes a down payment of $100,000 and borrows the balance of $300,000. What's the Rate Of Return on the investment of that $100,000 down payment? In banker's jargon, "what's the ROI?" ... the Return On Investment. Some folks would refer to it as the "Leveraged Rate Of Return", others might call this the " Cash On Cash Rate Of Return".

Call it whatever you like I'll stick with ROI this type of rate is dramatically higher than ROA. We're assuming that both the bot tom line annual profit of $8OK and the Net Operating Income are the same whether it's an all cash deal or involves borrowing. The only change which takes place is that this owner must now use part of the $80K "profit" to make the payments on the $300,000 which has been borrowed.

Here's what happens ... If the $300,000 is borrowed at 10% interest over a term of 10 years, then the monthly payment on the loan is $3964. Multiply that figure by 12 and the annual debt service (principal and interest payment) is $47,574. This owner must now use almost $48K of the Annual Net Operating Income to make payments on the loan for the next 10 years. After making payments on the loan there's still some profit left over. Take the annual debt service of $47,574 from the $80,000 of Net Operating Income and what's left is $32,426.

This Is the number "Profit After Debt Service" which is now used to calculate the ROI ... the Return On Investment or the so called "Cash On Cash" return. The arithmetic is simple. The down payment of $100,000 has been invested. This investment has earned $32,426 (After Debt Service). Divide the $32,426 by $100,000. The quotient is .3242576. Multiply by 100 to get a percent. That gives you (in round figures) 32.5%. That's the ROI a good bit better than the 20% ROA from the all cash transaction.

As good as this sounds it gets still better. Here's why ... In addition to getting the After Debt Service Profit of $32,426 each year for the 10 year term of the loan, this owner is building up equity in the wash as it gets paid for. That's another measurable gain because it's clear that at the end of 10 years of payments the place would be free and clear of any debt. At that point the owner can now put that entire $80K of Net Operat ing Income (before taxes) into his pocket.

It's impossible to know with certainty what the wash will be worth 10 years into the future. It could be worth more, it might be worth less, or it might not have changed in value from the original $400,000. Granted, in most cases it's apt to be worth more. But, for the sake of simplicity, let's assume that 10 years into the future the wash is still worth $400,000 hold ing the same value since it was first built. Clearly the original cash investment (down payment) of $100,000 has grown to $400,000. (Note: if that sort of growth appeals to you, you may want to check out "

A Tale Of Two Carwashers" at the end of this article.) Helluva Deal! Now factor in this equity growth over the origi nal $100,000 investment and the yield gets still higher than that 32.5% ROI. The arithmetic gets a little messy, I'll spare you the detailed calculations and go right to the conclusion. With this $300,000 in growth factored in, there's a good case to support a conclusion that the overall yield is in excess of 40%. In point of fact, the combination of the 32.5% ROI and the growth of the original $100,000 to $400,000 produces a "blended" or "Internal Rate Of Return" of almost 50%! I realize that throwing in Return On Assets , Return On Investment and Internal Rate Of Return may strike some readers as a needless complication ... add ing some confusion where simple clarity is needed. Regardless, at least the following summary statement (without all the messy math and fancy jargon) should be clear enough to those with any "money sense":

This is a great investment! A 32.5% Return for 10 years. Then an outstanding 40% Annual Return after the 10 year loan is paid off. And ultimately a 400% Return on the original $100K down pay ment. One helluva deal! But even beyond that, it's likely the wash and land will be worth more than the original cost of $400K at the end of the 10 years. It could be worth $500K, per haps $600K, or maybe even more. The wash's value (as a business apart from the land) also grows if the Net Operating Income has grown beyond the original NOI of $80K a year. Of course, the wash could be worth less if the NOI had dropped off from that $80K. But given this particular growth scenario, an "Internal" Annual Return on the total wash asset of 50%+ is quite possible.

Too Good To Be True? The owner of our 8-bay made out like a bandit ... right? When such Returns sound too good to be true, a number of questions beg to be asked. First of all, was the theoretical example realistic and could the calculations be flawed?

To resolve those questions, we need to answer these:

• What are workable terms and conditions for carwash loans?

• What additional risks are involved com pared to all cash investments?

• How does one minimize the risks involved in borrowing to do carwash projects?

• What types of loans are likely to be avail able in today's market?

• And how do you improve your chances of getting the best loan needed to make a carwash deal a reality?

...Pt. 2 Pg. 1..

......Pt. 2 Pg. 3

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