In previous columns, I have raised a wide variety of market issues, usually explaining how the channel can utilise the key skills of a third-party finance provider to support increase sales and tackle existing business challenges such as margin erosion. However, this month, I would like to draw readers' attention to one of the great benefits of today's diverse market - namely the broad range of financial options at your fingertips. One such tool is block discounting. Let me explain why it is coming under the channel spotlight.
Over recent years, the finance industry has expounded the benefits of point-of-sale finance and the channel - to a varying degree - has responded by embracing finance to facilitate sales. In some cases, larger resellers have chosen to white-label their financial services, but the preferred option remains working with a visible third-party. There is, however, another route. Why not set up a point-of-sale finance facility yourself, lending from your own balance sheet? This is a real business opportunity. It needs serious consideration because as the rewards increase so does the risk. But there is vast potential to develop a new profit centre as well as support your core business.
It would certainly require a change in mind-set and new skills; underwriting and risk, administration and collections. But more than anything, to start your own finance business, you would need money! That bit is obvious. But what do you do when that initial capital is tied up for a number of years and you want to lend more immediately? Go back to the business - only if you're really lucky! Approach existing investors for more - but that has a dilutive effect. The third option is block discounting, probably the most efficient way of gearing up your finance business to maximise shareholder return.
Block discounting provides resellers with a credit line giving instant access to an agreed fund, at an agreed discount to the value of your current loan agreements. Funds are released in advance from capital tied up in rental or loan agreements between the reseller and its customers. Having borrowed money by block discounting on the strength of your existing contracts, this means you are able to lend more money immediately.
Let's take an example. Let's assume that the total return on a three-year IT hardware leasing agreement worth £100,000 is 16%. If we then assume that out of the 16% return, 2% goes towards admin and 2% for bad debt provision then the total shareholder return over the three years would be £12,000. If the services of a block discounter were used, the reseller would be advanced £80,000 immediately on the strength of the £100,000 agreement, allowing a further £80,000 of lease agreements to be written. Again, there would then be an 16% return with 2% for admin (which will actually decrease with economies of scale) and 2% for bad debt provision. There would also then be an additional 9% borrowing costs for the block discounter. This leaves 3% additional income from the borrowing, or £2,400 over the life of the agreements. The block discounter would then release £64,000 upon the strength of these agreements generating a return of £1,920 and so on.
So the reseller can gears up at a ratio of 4 : 1 and 100K of capital becomes a £500,000 book, generating 16% on the first £100,000 and 3% on the remainder. This then means that the shareholder return on the initial investment once all the leases have come to an end is 28%.
Obviously there is much to consider before embarking on such an initiative. But third-party block discounters are at hand for innovative resellers who seek new ways of generating profit as a spin-off to their core business. Block discounting is a well-established way of gearing up for growth. You could find that your finance business generates substantial profit in its own right as well delivering point-of-sale support to the existing business.
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