January 1, 2012

Math is not Sexy


Math is not sexy. That is both my title and my assertion. Whenever I want to talk math, listeners' eyes glaze over, and I realize how teachers must feel when they teach the subject. Nonetheless, I persist.

For those who are tempted to stop reading, you need to realize that the chances are excellent, that above all other topics, you need to address this issue.
STORY TIME: I was on a job site last year with a house contractor. He is reputable, experienced and he has seen economic swings both up and down. Three employees in their twenties arrived for work. All three were driving 'trick trucks.' Half-tons with all sorts of customizing and options, which meant they probably had pretty high monthly payments. Even though he makes more money than the young men, he drives an older truck that is basic. It gets the job done but it is not a looker. He turned to me and said, "They haven't been through the early eighties."

I knew what he meant. He was citing the period when interest rates hovered around 21 per cent. It was a time when those who had cash reserves did well, and those who had debt, did not. And those who had a tad too much debt were crippled by the interest payments. There were several contractors in my city that collapsed due to the strain of high interest payments. Nothing illustrates this time frame better than the story of Grant Devine being elected as Saskatchewan's premier in 1982. His major platform plank was to cap mortgage rates at 14 per cent, and he won with a landslide victory. 

There are always going to be upswings and downswings to the economy. Interest rates are going to be low for awhile and then they will move. What goes up comes down and vice versa.

Even though we have had a good run of low interest, stability does not mean that it will last forever. The point that I am developing is not to be over extended. In business and in our personal finances, debt should always be manageable.

In my conversations with landscape contractors, garden centre owners and greenhouse operators, I have observed a common thread. Those that are doing the math are succeeding while those that are not, are digging a deeper hole. Here are the differences that I have noticed between the two camps.

First: Those that are stable only use their credit cards as a convenience, and they always pay off the monthly balance, even on a lower-interest card. This may sound pretty basic, but in the last two years I have encountered two very well educated people who have gotten into trouble from the interest payments on their credit cards. Credit cards should never be used as a source of credit. Credit card debt takes people down for the ten count. 

Second: A line of credit is designed for, and should be used only as, a short-term financing bridge between payables and receivables. A line of credit should never be viewed or utilized as a longer term debt management tool. Those who are successful, utilize a line of credit for only a short time. Based on my personal experience, my line of credit was never utilized longer than a 60-day period, running from April 15 until June 15. The rest of the year it was inactive, as income exceeded expenditures.

Third: Not all banks are the same. Most of us, when we are shopping for a new vehicle, think nothing of visiting three or four dealerships. We check out the product, the pricing and the financing. Yet, when we are arranging our long- and short-term debt, many of us take the first offer that our incumbent bank presents, as if this is written in stone. To be polite, this is a sucker punch. Banks make a lot of money off people who take first offers. As a case in point, I mentor a contractor who was dealing with a national bank. I suspected they were taking advantage of him and I encouraged him to move to a smaller, regional credit union.  For whatever reason, it took him a long time before he followed my advice, but when he did, his interest rate dropped from seven to four per cent. He was pleased with the difference the lower rate made to his business. Also to be noted, many credit unions allow for balloon payments on your debt, with no interest penalties. This feature allows you to pay down your loans at a faster rate, if you are having a good year. 

Fourth: There is a distinct difference between wants and needs. The adage is, we have many wants and very few needs. This applies to both business and personal finances. If you are diligent and prudent with your finances, you will live and mange within a realistic budget. If you live in an alternate universe, then you are in for a rude awakening.
STORY TIME: A friend's son left high school and went on to become a journeyman electrician. He makes top dollar and is always working. He is broke as well. He saves nothing, spending all of his income. As he has a good job, credit is easily available to him and he views that as a good thing. His view is that if he made more, then he could save something. Not true! Those who are prudent will always find a way to save something. Saving is a habit. They know that it is not an increased income that allows them to save.

Fifth: Those that are successful have learned to take only what they need from their companies. Those that are less than successful have taken an income that was too high. In short, they have bled their company's cash assets. There are even those who have paid themselves based upon future income. They have made a dreadful mistake. There is nothing on your balance sheet that ensures your company's success as much as the account labelled Retained Earnings. I am always surprised at the number of people who I chat with who do not know what this account on the balance sheet means. Simply put, this account indicates the excess income that you have earned versus that which you have taken out. Retained earnings is the amount that your company still owes you, and that above all else, demonstrates prudence. It should increase as time moves along, as long as your company has the wherewithal to honour the amount payable.  Retained earnings not only demonstrate prudence, but also enable you to obtain better interest rates when you borrow. Nothing made my lending institution pay better attention to me than when I pointed out that I could self-finance new construction and expansion due to retained earnings. For some strange reason, banks are very attracted to people who don't need their lending services. Also, retained earnings act as a savings account and a pension plan for those of us who are self employed.
STORY TIME: There was a small coffee shop four blocks away from my garden centre . It was operated by a man who ran the kitchen, his wife looked after the order counter and his sister-in-law did the clean up. His mother-in-law would come in when they were busy to assist. A real family operation. The place served up a decent egg salad sandwich for lunch, with hand-cut fries. At coffee time, the place was packed with people eating homemade cinnamon buns, fresh from the oven. In short, they were a success. One day, they were closed for good and no one could understand why. I ran into his mother-in-law a few weeks later. She told me that her son-in-law, while running a good kitchen, had little business sense. He regarded a dollar in the door as a dollar in his pocket. Revenue Canada and his suppliers disagreed. He had violated my fifth rule of math.

There are those who are wondering why I am ringing the bells. My answer is simple. There is an epidemic of inappropriate financing occurring, and it is more often among the inexperienced from our business community. They are operating from a position of naiveté, believing that nothing changes, when in reality, everything changes.  When I was writing this, I shared some of my thoughts with my longtime friend, Garfield Marshall. Garfield owns the reputable Advance Orchards in Grand Forks, B.C. Garfield talked about surviving the debt crisis of the 1980s, something I mentioned earlier in this column. He said, "Those of us that survived debt in the early 1980s worked to eliminate that debt ASAP in our business and to develop fiscal strength. Our banks told me over the years that we were much too conservative." Conservative is not the word I would choose. Prudence is the correct description. A careful and budgeted approach to business, expansion and income is prudence. Financial prudence, retained earnings and managing within a realistic budget will keep all of us on the road to success, and that to me is sexy.
Rod McDonald owned and operated Lakeview Gardens, a successful garden centre/landscape firm in Regina, Sask., for 28 years. He now works full-time in the world of fine arts, writing, acting and producing in film, television and stage.