Before you borrow, weigh the potential
gain against the guaranteed costs.
This article originally appeared in the October 2016 edition of INSTORE.
The concept of delayed gratification is something that has become less common, and to some extent less necessary, in modern times. We live with the mantra of “enjoy now and pay later,” and our economy has come to rely on it.
As retailers, debt has allowed, through credit card and finance options, the chance to sell things to people that they previously couldn’t have afforded. As business owners, debt has enabled growth and expansion that wasn’t formerly possible.
Debt, however, is a double-edged sword. With temptation comes responsibility. Much like grabbing the last chocolate brownie can have repercussions later, the decision to take on debt is often driven by current desire rather than later consequences.
What factors should you consider before increasing your liabilities by borrowing?
1. The cost of capital. With interest rates near all-time lows, it’s easy to assume debt comes with little downside. But don’t think the cost of debt ends with the interest rate. Fees from lawyers, accountants and banks are invariably part of the mix and add to the true expense. These oft-overlooked costs can add considerably to the level of debt. Make sure you know these costs before finalizing your decision.
2. Return on investment. Any business debt is a business decision and must be compared against the expected return. If the cost of debt is 2 percent then the investment needs to return more than this.
3. Quality of sleep. There’s an old saying: “Borrow $50,000 and you don’t sleep at night; borrow $5 million and your bank manager loses sleep instead!” The truth is some people are more comfortable with debt than others. If borrowing will cause you to lie awake at night worrying, is it worth the loss of sleep?
4. Loss of freedom. Any form of debt needs to come with a quid pro quo. In most cases, this is offered in the form of security. Are you prepared for this loss of freedom? If your house or some other asset is mortgaged or collateralized, it’s no longer entirely yours to do with as you wish. For those of a highly independent nature, choosing to have debt can feel like shackles that are all too tight.
5. Opportunity cost. If you borrow to make this investment, then what other opportunities must you turn down? Unless you have an unlimited supply of assets to lend against, most big investment decisions will close the door on other opportunities, so consider carefully before going ahead.
David Brown is president of the Edge Retail Academy. For information about the Academy’s management mentoring, contact inquiries@edgeretailacademy.com or (877) 569-8657.