How to Finance a Car Wash Business Acquisition

In this article we discuss how entrepreneurs and small business owners can finance the acquisition of a car wash. We cover the following subjects:

  1. Ways to finance the acquisition
  2. The lender’s perspective
  3. Improving and adding machinery
  4. Common obstacles and problems
  5. Transaction structure

How are car wash acquisitions financed?

Entrepreneurs and small business owners that want to finance the purchase of an existing business have a few options. Most transactions under $5,000,000 are funded using one or more of the following alternatives.

1. Your own funds

The simplest way to buy a car wash, or any business, is to use your own funds. This side steps all the lender requirements and stipulations. You are free to do as you please. There is one major problem with this strategy, though. Few entrepreneurs have the funds to buy a business outright. However, they are still expected to contribute funds to the acquisition.

Most lenders require that buyers contribute 10% – 20% of the acquisition price. This is commonly known in the industry as the equity injection. Funds for the equity injection must come from the buyer and their partners. They cannot be financed by lenders or the seller. Learn more about down payment sources.

2. SBA backed loan

The most common way to finance a car wash acquisition is through a SBA-backed loan. The SBA is not a direct lender though. Instead, they provide guarantees to lenders. This enables lenders to provide acquisition loans to entrepreneurs. Most small business acquisitions that use external financing have an SBA-backed loan component. These loans provide lup to $5,000,000 in financing, with very competitive pricing and flexible requirements.

3. Seller financing

Most sellers are able to provide some financing. Often the terms are flexible and offer a good-enough rate. Having seller financing is always a good idea. It ties the seller to the business for the period of the loan. This lowers the chances that they sold you a bad business.

4. Conventional bank loan

Buyers can also use conventional bank loans to acquire a car wash. These loans are used in circumstances were the transaction (or the buyer) does not fit the SBA’s criteria. Conventional bank loans don’t have the advantage of a SBA guarantee. Consequently, banks provide them only to clients that have very good collateral. Also, some of these loans have a balloon payment component. After a number of years, the whole loan amount becomes due. Loans with balloon payments that become due must be refinanced.

What do lenders look for in an acquisition?

Most buyers tend to solely focus their negotiations on their needs and requirements. This limits your options and chances of success. It is to your advantage to understand how lenders view transactions and buyers. Knowing your lender’s requirements will help you craft a strategy that has a higher chance of success.

1. Areas of specialty

Lenders and finance company have industries that they are comfortable with, and industries that they prefer to avoid. This varies by lender and is based on their past experiences in specific industries. Few buyers are aware of this, but it is a key element in deciding who to work with.

You could have the best car wash acquisition opportunity, but if your lender is not comfortable with the industry, they will decline the opportunity. The only way to find out if they are comfortable financing car wash acquisitions is to ask them. Obviously, you want to work only with lenders that are comfortable financing car wash acquisitions.

2. Transaction size

Just like lenders have preferred industries, they also have preferred transaction sizes. Again, your best strategy is to ask them. For example, we work with acquisitions in the $700,000 – $5,000,000 range. We can finance larger acquisition if they are exceptional opportunities. We won’t consider transactions under $700,000.

3. Collateral

Lenders finance acquisitions that are backed by collateral, from both the business and the borrower. Lenders never want to be in a position to try to collect from a borrower’s personal assets. Consequently, business collateral is more important than borrower collateral. In the case of SBA backed loans, borrower collateral issues are mitigated by the SBA guarantee.

4. Profitability

Lenders tend to focus specifically on financing the acquisition of profitable businesses. They want the loan to be paid back from the cash flows of the target business. Few lenders will provide acquisition financing for a car wash that is loosing money.

5. Real estate

Most lenders finance only car wash acquisitions that include the underlying real estate. They won’t consider acquisitions that don’t include the real estate. The main reason for this is that location is critical for the success of a car wash. Without the real estate, there is no guarantee that the business will continue to succeed if it is forced to move.

Adding real estate to the acquisition has an interesting side benefit. The term of the acquisition loan will usually be extended. This provides for comparably lower monthly payments, albeit for a longer period of time.

6. Reasonable valuation

Lenders will provide financing only if the acquisition has a reasonable valuation. This varies by lender, but most use the rules of thumb from the Business Reference Guide. For example, self service car washes usually for:

  • 2 – 3 times their cap rate
  • 4 times their annual sales

Full service car washes, which can also sell ancillary services, have different rules of thumb:

  • 3 – 6 times EBITA
  • 4 – 6 times owners net provable income

Notes:
Cap Rate: Capitalization rate
EBITA: Earnings Before Interest, Taxes and Amortization

7. Buyers equity injection and collateral

Every finance company and lender requires that the buyer contribute some funds to the acquisition. The rule of thumb is that the buyer should contribute around 10% of the acquisition value. Some require 20% though, so bring it up early in your discussions. If you are using SBA-backed financing, the financing institution will likely be lenient with the buyer collateral requirements. This varies by opportunity though. If you are using a conventional bank loan, expect the bank to have high collateral requirements.

8. Buyers credit score

Financial institutions that provide SBA-backed loans require a minimum credit score of around 650. Conventional banks usually have more stringent requirements. Buyers commonly question the need for their credit score in a business acquisition loan. After all, they are asking for a business loan and not a personal loan.

The explanation is simple. A credit score gives the lender a good indication of how the buyer manages their personal financial affairs. Although imperfect, this is a proxy for how they will manage their business affairs.

9. Buyers industry experience

Lenders prefer to lend to buyers that have experience in the car wash industry. Specifically, the buyer must have management experience in a car wash. This creates a dilemma for buyers that don’t have car wash industry experience. You can get around this problem by hiring one of the current managers from the target business. Lenders usually consider that arrangement a reasonable compromise.

10. Active operator of the business

Lenders provide financing to buyers that will actively operate the business. They want the buyer to be involved in the day to day activities of the company. Lenders will not provide financing for “absentee owner” opportunities.

Improving and adding machinery

Some buyers want to improve the car wash as part of the acquisition. This often includes upgrading some machinery. This is a common request and can be a great strategy if well implemented. Many lenders allow you to add machinery acquisitions to your financing package. Lenders are comfortable with machinery because it adds solid collateral to the transaction.

Common challenges with acquisitions

Although car washes appear to be simple businesses, buying one can be challenging at times. Here are some common challenges.

1. Real estate is not included (or for sale)

As we said before, a critical variable for the success of a car wash is its location. Without a good location, the car wash will likely fail. Not owning the real estate leaves you at the mercy of your landlord. Consequently, most finance companies will consider the transaction only if the real estate is included.

2. Revenues aren’t always easily backed

Getting accurate revenue figures for some car washes can be difficult. Most of their sales are made in cash and not always recorded in their point-of-sale system, or in their financial books.

If you cannot get accurate financials, you can try asking for seller tax returns. Many sellers are reluctant to provide them. Beyond that, there are other methods to estimate their revenues, such as looking at the water usage. Ultimately, financial institutions will not consider acquisitions whose revenues are not well documented.

3. Environmental issues

Some car washes may have ground contamination issues. These need to ne examined through an environmental site assessment. The assessment helps determine the required remediation steps. Serious ground contamination issues can easily derail your acquisition financing package.

How are most small acquisitions structured?

The majority of acquisitions of a car wash use some form of financing. Most buyers use the strategy of getting the largest business that they can afford. This is risky, but also maximizes their returns. The accomplish this using a leveraged buyout structure. Leveraged buyouts are actually common for small business acquisitions. Contrary to popular belief, an LBO does not allow you to buy a business with no money down. It does, however, allow you to buy a business were you only pay for 10% or so of the acquisition. Most acquisitions use the following structure.

1. Buyer equity injection (10%)

As mentioned before, a buyers equity injection is a necessary component of any acquisition that will use a loan. The majority of acquisitions require that the buyer inject at least 10% of the acquisition value. Some acquisitions can be done with a 5% injection provided that the seller provides financing and is willing to take a standstill. A standstill prevents the seller from getting paid on the seller financing component for the life of the acquisition loan. In our experience, few sellers agree to this.

2. Seller financing

Seller financing plays an important role in small business acquisitions. The most important advantage is that to some extent, it ties the seller to the business for a period of time. This reduces the chances that they sold you a bad business. Another advantage is that sellers can be more flexible than financial institutions. You can leverage this to your advantage.

3. SBA-Backed loans

Business acquisition loans are the backbone of most transactions. The majority are backed by the Small Business Administration. Some buyers are averse to using an SBA-backed loan. SBA loans have the reputation of being more cumbersome than other options. This is not the case. Most business acquisition loans, SBA backed or not, have a similar amount of paperwork. Actually, SBA loans have more flexible buyer requirements than other types of loans. This makes them an ideal choice for many transactions. More about “How to get a business acquisition loan.”

Ready to submit a transaction?

We look forward to working with you! You can submit a transaction usingĀ this form. We will review the information you sent and one of our associates will contact you immediately.