Home' Trinidad and Tobago Guardian : February 18th 2016 Contents The case ierre, 37, is a self-employed
technician who sells and
installs security and monitoring
systems, both residential and
commercial. He has built a
sound reputation and now has
a steady flow of referrals for new customers.
Three months ago, he invested $200,000 in
a new product line and the market responded
so favourably, it resulted in him placing a rush
order for another $100,000 worth of stock to
replenish what was sold. The retail price of
each system averages $10,000, $5,762 of which
is the cost of equipment.
A recent vehicle breakdown on the highway
while rushing to meet a client forced him to
consider replacing his 15-year-old pickup with
a much-needed new panel van. The new van
will cost $250,000 and the old pickup is worth
only $35,000. Pierre is considering using his
cash to make an outright purchase. If he does,
Pierre will only have $18,000 in cash on hand
for personal and business use.
Two individuals are encouraging him to take
different routes in solving his transport prob-
One is a bank officer at the dealership who
offered Pierre 100 per cent financing with
terms of $6,500 per month over five years.
Pierre was quite surprised by the offer as only
six months ago, the bank turned him down
when he applied for financing for a shipment
of new products.
The other adviser is Bradley, a business
associate. Bradley suggests that Pierre forget
about the loan as well as using all his cash.
He recommends renting a similar vehicle to
do the job. Bradley told Pierre that the monthly
rental would be $1,500 less than what the
bank would charge and he would have sig-
nificantly less hassle than the other two
Pierre is undecided: pay cash, borrow or
Vehicle breakdowns could cost Pierre lost
opportunities and affect his level of customer
service. Each of these financing options would
have its particular benefits and pitfalls.
Any decision Pierre undertakes would have
a different impact on his cash flow, capital
position and financial progress.
& financial position
We have only been given the business per-
formance for the new product line and for a
short three-month period. Such a timeframe
is far too short to make reasonable sales and
profit projections and it would be anyone s
guess if the level of sales would increase,
decrease, speed up or slow down. We also do
not have a complete picture of his overall oper-
ation in terms of other lines of business and
their performance or his operating costs.
What we do know is that he put out
$200,000 three months ago and has sold
$100,000 worth of goods. We also know that
one system sells for $10,000 and the cost of
the item sold is $5,762, which translates into
a gross profit of $4,238.
Based on these numbers, we calculate that
he sold a total of 17 systems ($100,000 /
$5,762) and his gross profit for one quarter of
the year was $72,046 ($24,015 monthly). If
he keeps this up, for three more quarters he
should have an annual gross profit of $288,184
(a 288 per cent return on investment).
In terms of financial position, we know that
Pierre s pickup is worth $35,000 and he cur-
rently has $268,000 in cash ($250,000 +
$18,000) and $100,000 worth of inventory.
We were not told if he already paid for the
second shipment or if it was on credit but we
will assume that he paid cash because his
trading relationship with suppliers is only three
months old. We will also assume that he had
no credit sales so he has no receivables.
Pierre appears to be in a strong position
and has the ability to make a cash purchase
but, doing this, would significantly deplete
his working capital reserves which are essential
to keep the business running.
We have no idea what his monthly com-
mitments are so we cannot say for certain
how much cash is enough to keep for day-
to-day operations. However, based on the
movement of his stock so far, with sound
prospects of continuing movement---based on
referrals and the market s desire for the new
product---Pierre should be able to convert
inventory into cash quite easily to finance
If, however, demand increases faster than
he can satisfy, Pierre might need more than
$18,000 at his disposal to finance new orders.
Shipment timing is another important factor
whereby longer fulfillment times would require
him to have more inventory, thus more capital.
If his supplier is local and adequately stocked
then Pierre would not have to carry too much
inventory and he would not need as much
If Pierre uses most of his cash to purchase
the vehicle and finds himself needing capital
for extra goods, then approaches the bank, he
might be met with the same response he did
six months ago. A vehicle loan would be
secured by the van through a mortgage bill of
sale but a shipment credit, for all intents and
purposes, is an unsecured facility.
It might be a good idea to strike a balance
between these two financing options whereby
Pierre can make a down payment and keeping
enough cash on hand to cater for increases in
demand. This option may reduce his monthly
loan payment to less than the rental figure
that Bradley quoted.
There is an added benefit in using debt
financing in that the interest cost can offset
taxes, along with the wear and tear Pierre gets
from the use of the vehicle.
Further, his cash might be more profitably
put to use financing his stock rather than
trying to save interest on the vehicle loan (esti-
mated at 10.85 per cent APR) which is certainly
nowhere close to 288 per cent per annum.
Bradley s suggestion in going the rental route
has merit in that, for starters, most of the
monthly fees are tax deductible. There is no
tax benefits for using cash. He will not have
to worry about insurance and major mainte-
nance as he would with the other two options.
Pierre would not have to worry about break-
downs, as the rental company would just
replace the vehicle probably with a newer,
more reliable model. The obvious downside
is Pierre will not have an asset at the end of
five years, not even a depreciated one.
The benefit of a smaller monthly payment
is not fully a point for the rental option as the
bank loan can probably be extended up to
seven years or reduced by making a down
D C F
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FEBRUARY 18 • 2016 www.guardian.co.tt BUSINESS GUARDIAN
FINANCIAL ROAD MAP | BG17
Buy cash, borrow or rent
...An entrepreneur's dilemna
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