Having "ploughed through" asset finance terminology in the last edition, now onto the more interesting aspect… How can finance help your business?
Here are a few ways in which basic finance products can be made more flexible to more closely match your business needs:
1. Repayment Structure:
Most people are used to financing over periods from 12-48 months and with monthly rentals. Often with a part-exchange as a deposit leaving the amount to be financed plus interest and then divided equally by the number of months. Nice and easy, yes, but not necessarily the best for your business. Let's look at some of the various options that could be useful to you:
Get the right period: most people consider finance a necessary evil and want to repay it quickly so they "own" the equipment OR take it over as long as possible to keep repayments low.
In business there is little profit in owning equipment (all of which depreciates pretty quickly) and even less in stretching your cash flow to make unnecessarily high repayments, equally you should not finance for longer than the equipment will be working for you.
Try to match your finance period with the time you will keep the equipment, because if you decide to change or sell it earlier you will need to repay the finance and this will usually incur a penalty.
Over the last 10+ years rates have been fairly consistent and relatively low, so the cost of borrowing is modest. If your profit margins are higher than the interest rate on borrowing then think about borrowing even if you have cash and let that cash earn more in the business!
Balloon Payment: most of the equipment available to the turfcare industry is not likely to become obsolete and usually has a reasonably long working life. Change is normally because new equipment may be more efficient, workload has increased and requires a larger model or the old one is just plain worn out!
Replacement before becoming worn out makes sense to get the best quality performance, but old equipment will usually have a used value. You could use that value as a trade-in, reducing the finance on your new equipment. However, this time round when you buy new why not think about the equipment future value, take a prudent view to allow for changes in the market and then commit to a final finance rental equal to that figure…known as a balloon rental….e.g.
New compact tractor £12000 plus VAT
Trade-in £2500 plus VAT
Amount to finance £9500 = 48 months at £230
Value of equipment in 48 months = £4200
Prudent value to cover market changes = £3750
Finance £9500 over 48 months with final balloon rental of £3750 48 months at £164
+ A saving of £66 per month. Good for cash flow.
- You are liable for the balloon rental. If you have been prudent the equipment should be worth this and more, allowing the excess as a deposit on the next new replacement!
Delayed Start: turfcare is a seasonal industry, the season substantially matches when the grass grows and most income arrives during the season. You may want equipment ready for that first burst of growth and/ or there may be a great deal during the closed season as suppliers try to keep sales ticking over. Why not consider a finance deal with a delayed start?
Deposit and VAT are due day 1, as usual, but you can defer the first rental until the season starts or fees arrive eg for a membership club.
+ new equipment ready for use immediately as required
+ off season bargains
- interest payable for the period with no rentals, but usually this is spread over the remaining rentals with little real impact.
Seasonal Payments: as mentioned above, this is a seasonal business, therefore why not consider finance payments to match your season and or income stream. For clubs who receive fees annually it could be a straightforward case of rentals paid annually when fees are received. Where your business earns most during the growing season then you can arrange a finance scheme with repayments higher in season and reducing off season.
+ income matches expenditure
+ no need to use cash or bank overdraft to pay rentals in off season
-in season payments have to be increased to compensate for the lower closed season payments
2. Interest Rates: fixed or variable (linked)?
Fixed rate: most finance is at fixed rate. This simply means the interest is based on today's rate and the repayment calculated accordingly..it then does not change throughout the term irrespective of what happens to the economy, budget or interest rates.
+ known repayments
+ no surprises, easy to budget for today and the future
- interest rates may go down
Variable rate: literally the opposite of fixed rate. The funder will fix a margin over their base rate e.g. 3% over base rate today 6% = 9%. Each time base rates change so too will the rate charged to your account, the 3% margin will stay fixed, so base rate increases to 6.5% + 3% = 9.5% charged to your account. |Not beneficial for smaller balances (eg below £50k).
+benefit of lower rentals if interest rates fall.
- higher rentals if interest rates increase
-budgeting is difficult as repayments will vary.
3. Manufacturer Schemes:
All of the earlier benefits can change if manufacturers / suppliers use finance to support sales of their product. We have all seen it in the car market and it is long standing in the Ag sector…."0% finance over 24 months….Buy now, pay later…no pay till May".
How do they achieve this…quite simply the manufacturer / supplier pays for some or all of the interest. With reputable suppliers these are genuine schemes used to promote certain models or new launches. If the rate charged is lower than your business profit margin use their money not yours!
However, note…for suppliers to pay interest, the longer the finance period the higher the interest cost.
This is why most 0% schemes are 12 - 24 months maximum. Whilst 0% is attractive, make sure you can afford repayments over such a comparatively short time. If it stretches your cash flow then ask if they will do a low rate option over a longer term. Most use "0%" to attract you and will offer below market rates on longer terms, these may suit your business better and give a preferential rate, if not 0%.
So, have I answered the opening question: How can finance help my business?
Unfortunately, there is no magic formula to answer this for all businesses, each situation is different.
This is where dealing with a reputable finance broker really does help (you would expect me to say that…but I also really believe. it!). Most brokers have the resource and experience to discuss your needs, we are not tied to one source…First Independent Finance has over 20 funder relationships. Approach one bank or finance company and they will understandably sell you what they can offer, maybe not the best for your business. We can find the best solution for your business leaving your bank facilities free for day to day business needs.
I am happy to cover specific items in future editions, please let Pitchcare know if you have such a requirement. Also, if you have any questions you would like answered directly, please do not hesitate to contact me. John Morrison, First Independent Finance Limited 01560-482911.