Ticket Financing Continues to Flourish – What Is Your True Interest Cost When Borrowing to Buy Inventory?
May 20, 2016 Darnell Goldson
RCN Capital’s Ticket Financing program continues to march along its rapid growth path in 2016. Professional ticket brokers have the following five financing options available and outlined in detail at www.ticketfinancing.com: Transaction Financing; Line of Credit – Equity; Line of Credit – Unsecured; Receivables Financing; and PSL Financing. The loan term length can vary based on which option one deploys and that is important to consider in the analysis of interest cost.
In 2015 total loan volume for the Ticket Financing program in USD was up 538% over total loan volume in 2014. So far in 2016 total financing transactions conservatively projected are on pace to grow by 77% over 2015, a level that is up a whopping 775% over the level attained in the first year of operation for Ticket Financing which was 2014. As we continue to grow and bring in new clients it may be helpful for all current and future clients to understand how amortization works and what is the true cost of financing in terms of total interest paid.
So, how much are you paying in interest when financing some aspect of your business with RCN Capital? Let’s use 12% as an interest rate for this discussion and analysis, as it is relevant and easy to understand in terms of 1%/month. Brokers understandably tend to employ quick and basic mathematics calculations when considering the cost of financing. This is extremely crucial to comprehend because it can lead to a decision for or against using any type of financing. One common mistake is to simply multiply the amount financed by the interest rate to determine “what this loan is costing my business”. For example, for a $50K loan a broker might multiply $50,000 times 12% ($50,000*.12=$6,000) and draw the conclusion that they are paying $6,000 in interest for this example transaction. Let’s assume this same broker is projecting that this $50,000 in inventory will return $62,500 in gross sales (a 25% absolute, gross ROI which is not an annualized ROI since that depends on the time elapsed between purchase and sale). This broker might look at their own projections of financing cost and determine that the cost of financing eats up almost half of the projected gross profit with fees and other costs still present as well. Is that truly the case?
RCN Capital produces an amortization schedule for all clients and among other things related to financing two are very important to understand: A) the amortization and declining balance; and B) how loan term influences total interest paid. The following table displays the total interest paid for a financing transaction of $50,000 using different term lengths (left side) and frequency of payment (across the top):
Total Interest Paid on a $50,000 Loan, 12% Rate
|1 Year Term|
|6 Month Term|
As we look at this table we can clearly see that the total interest paid is lowest with a shorter term length and a more frequent payment interval. Why is this? The amortization of a loan applies the interest rate on the outstanding balance at that given point in time while taking in the consideration of the time value of money and discounting. A shorter term length mathematically forces the principal payment down more quickly as does a more frequent payment interval. Consequently the lowest total interest cost aligns with the most frequent payments and shortest loan term length. All Ticket Financing transactions require strictly weekly payments made via ACH and the vast majority of transactions have a term length of 26 weeks. Depending on the collateral and security there are transactions with a 52 week term. The absolute size of the weekly payment of course is also important in terms of budgeting your cash flow, and clearly a longer term length lowers the size of the weekly payment. The 26 week term provides the client with the lowest total interest cost while also helping RCN Capital’s risk exposure.
Circling back to the original question of how much does financing truly cost your business we can see that the absolute cost is much less than what the given annual interest rate implies. Many of your investments and projections are not a year in duration or longer so yes this is very relevant. For example, the table above shows that the total interest paid in this example making 26 weekly payments is 3.14% of the amount financed ($1,572.64/$50,000 = 3.14%). The question is can you use that type of financing effectively to generate a ROI within the same time period that easily covers 3.14% plus other costs of your business. A 26 week term also enables one to turn the balance over roughly 2x/year thus twice using leverage to take advantage of an opportunity. The Ticket Financing program at RCN Capital provides brokers with several options to explore taking advantage of using financing and leverage in your business.
David Young, Director of Ticket Financing, runs the RCN Capital Ticket Financing program which provides qualified ticket brokers with five financing options for their business. You can reach him at firstname.lastname@example.org or 860.989.1150.