There are benefits to paying cash for equipment. These include:
- Simplicity — It’s easy to pay cash
- Ownership — Pride in paying cash as well as immediate ownership
- Zero interest expense — Paying cash is cheaper because you don’t incur financing charges
Comparatively speaking, it is certainly true that paying cash to acquire equipment is generally less money out the door on a strict dollar-for-dollar cost comparison as opposed to obtaining credit and using a financing mechanism. However, when you consider what the true costs of paying cash for equipment really are, it makes sense to at least stop and consider the merits of using financing to acquire equipment before you outlay the cash.
For purposes of this article, we use the term “financing” to include loans, capital leases, operating leases or rentals. This means any type of structure that allows you to pay for equipment over time rather than with an outlay of cash up front. There are valid business reasons that nearly 8 in 10 United States companies choose financing instead of paying cash to make equipment purchases. The purpose of this article is to add additional insight to your firm’s decision-making process as you consider paying cash versus financing equipment.
The truth of the matter is, other than simplicity and psychological reasons (including “pride of ownership”), paying cash for equipment usually does not provide significant benefit over equipment financing. Even for many organizations that are flush with cash, using cash to pay for propane equipment might be a poor business decision. The merits of obtaining credit and financing equipment acquisitions include:
- Preserve cash — Financing preserves cash, the most liquid asset of any business
- Preserve lines of credit — Taking it a step further, financing through a non-bank financing company not only preserves cash, it also preserves bank lines of credit, which can be extremely valuable when it comes to operating the business and meeting payroll
- Improved matching of cash outlays with income — Pay for equipment over time as it generates revenue
- Flexibility — Establish financing terms that work best for your cash-flow needs (lower payments in warmer months, for example)
Allow us to clarify that when we are referring to the merits of using credit to obtain equipment, we are talking about equipment that is either going to make the firm money, save the firm money or both. We are talking about utilizing equipment financing as a method of better managing your cash to acquire revenue-producing and cost-saving equipment, such as tanks, bobtails, route management systems, tank monitoring equipment, etc.
It is a fact that revenues are created through the use of equipment and not through the ownership of equipment. (A financed bulk storage tank produces the same amount of revenue as an owned bulk storage tank. The difference is that the marketer who owns the tank has less cash in their pocket.)
Spending cash on equipment significantly reduces working capital (net working capital equals current assets minus current liabilities). Using cash for equipment purchases could potentially have an adverse effect on a company’s finances because less cash means the company is less liquid. Working capital is the lifeblood of any business and is the most crucial component of a firm’s overall success.
Many successful business managers point out that it doesn’t make good business sense to use up cash for equipment purchases. One prevailing thought is that paying cash up front for equipment is the same as paying a few years’ worth of salary in advance to an employee. Take a moment and think about it. In both cases, your organization won’t reap all the benefits from the employee or the equipment immediately. So, why pay for something up front when you are not going to receive the full benefit until later?
This is especially true during times of uncertainty when a firm can’t fully predict the demand on its cash requirements. Just like a squirrel who stores and protects nuts for winter, it makes good business sense for a propane marketer to conserve its working capital. Have you ever wished you were able to buy more liquefied petroleum gas (LPG) because you sensed that prices were going to rise but you didn’t have the ample cash reserves because you were tight on cash?
Perhaps you depleted cash when you purchased equipment, such as bulk storage, trailers, tanks, bobtails or other technology. Had you financed the bulk storage, perhaps you’d have the cash to invest in the LPG. The simple truth is that depleting cash reserves can result in raising opportunity costs.
Many organizations learned the hard way during the recent COVID-19 pandemic that the preservation of cash is paramount to a business’s survival. Financial experts generally recommend a cash reserve of three to six months of expenses. Given the seasonal nature of many propane companies, it is a reasonable argument that propane companies should have even more cash reserves than what the so-called experts recommend. Preserving cash also demonstrates stability, offers operational efficiency and can be utilized in times of emergency for unexpected expenses or decreases in revenue.
There may very well be a few propane business leaders reading this article who were raised in a closely held family business. It’s not surprising to hear some marketers recall fondly the words of a very well-respected relative who may have founded the family business years ago, offering up advice that may have included warnings about incurring debt, along with recommendations to “pay cash for everything.”
Financiers mean no disrespect to the ones who paved the way to make the propane industry what it is today. Nor do we suggest that paying cash for propane equipment is a total mistake in every instance. Further, we readily admit that carte blanche advice rarely applies to all parties involved.
However, we do suggest that you should consider financing options and the merits of whether it makes good business sense to finance or lease an acquisition, even when you have enough cash to stroke a check for that shiny new bobtail or load of tanks. Borrowing money for equipment acquisitions does not signify that the borrower is “poor” or couldn’t otherwise afford to buy the equipment. In fact, the roughly 80% of U.S. companies that finance equipment include some of the largest and most successful companies in the world.
Often, these borrowers and lessees employ full offices of accountants, attorneys and tax specialists that recognize the benefits of financing equipment acquisitions as opposed to paying cash. Therefore, simple logic dictates that it may, in fact, make good business sense for the small and midsize companies to also consider financing equipment as an alternative to paying cash for their equipment acquisitions.
When considering financing, it is important to work with a lender that understands and has a successful track record with extending credit into the propane industry. Working with an experienced lessor or lender will make the credit underwriting process much easier and save significant time and headaches for both the borrower and/or the lessee.
