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by RON STURGEON, AutoSalvageConsultant.com

Need to borrow?

The first article in this series listed more than 25 tactics to increase your business success, all of them based on my experience. Each of the articles after the first takes a closer look at one of the tactics and can be read here.

I have written about this topic several times, but it comes up regularly in my consulting assignments. Recyclers are typically conservative borrowers. The older generation of yard owners never borrowed. They didn’t borrow because, in the period between 1970 and 1990, salvage yards were well capitalized and very profitable. Typically, in these two decades, yards had gross margins in the 60 to 80 percent range and net profits of 20 to 30 percent.

However, as the industry changed, moving from retail to wholesale, computerizing, margins have shrunk and many operators haven’t made the changes needed to maintain profits. This failure to change with the times has left some yard owners with less capital. Some are thinking about borrowing for the first time.

In other cases, new operators have entered the market more recently and they are less resistant to taking on debt. Sometimes, the passing of the business to the next generation meant that children inherited a business with less capital and they often were more willing to consider using debt.

I started with almost nothing. My dad died and left me a tiny inheritance, a few thousand dollars and a half interest in a VW bug. After my father died, my stepmother threw me out. I was a senior in high school and I was homeless when I started my business career, so I don’t believe that obstacles prevent determined people from succeeding.

I believe you can be anything you want to be if you work hard enough and have a passion for learning. I didn’t go to college, so I don’t consider earning a degree as important as having a strong work ethic. Because of my work ethic and life experiences, I am not afraid of taking on debt for the right reasons.

Unfortunately, some yard owners decide that they need to borrow once their business is losing money and they need operating cash. They believe a loan will help solve their problem. In reality, unless they examine the business and fix the underlying problems, borrowed money will just delay failure for a short time.

A few years after Ford Motor Company purchased my yard in the late 1990s, my friend Dixon Thayer and I and one other partner purchased Greenleaf, Ford’s auto salvage division. At the time, it was losing lots of money every month.

Dixon became chief executive officer. He understood that the division’s problem was not a lack of money. The real issue was we weren’t close to being profitable. He insisted we not try to grow Greenleaf until we could prove we could do it profitably.

The turnaround was painful. We had to lay off hundreds of employees, to overhaul buying, and to review every expense line. We did what we had to do to help the business return to profitability. We changed in fundamental ways.

The bottom line is simple: There is plenty of money out there. In most cases, banks want to make loans, especially to well-run, profitable businesses borrowing to grow. Naturally, bankers are a lot less eager to make loans to businesses with declining profits and owners drawing big salaries and not solving the issues preventing the business from being more profitable.

What is profitable from the bank’s point of view? If you are paying market-rate rent (or debt service) for your real estate, and including reasonable salaries, you should be making 10 percent net profit. You should be making slightly higher net profit if your business is small (less than $200,000 per month), and maybe slightly lower if your business is much larger ($200,000+ per month). But those are minimums. Many yards are making 20 percent, and if you have profits above 10 percent, you likely can grow with internal cash and you probably don’t need debt.

However, if you want to grow more or faster than your capital allows, earnings at these levels will prove to your banker that you can pay back a loan. I have one other bit of advice: Learn how to calculate debt service coverage. Understand what the banker is looking for before you pay him or her a visit.

Before you apply for a loan, work on becoming more profitable. Many operators wait until they’ve run out of cash to consider making changes they need to make. They are 20 years behind the good operators, and it can certainly be hard to grow and become profitable when you are “running on the hub” with your cash.

If you’re struggling and losing money or making much less this year than last, perhaps the best investment you can make is to hire a consultant like Bill Stevens, Jim Counts, Robert Counts, or Mike Kunkle. Any of them can give you a condensed one-day course about all that must change to get yourself back to profitability. When a business is struggling, the owners often believe that they cannot afford to pay a consultant for help. In fact, they can’t afford not to.

Another way to get help is to come to the annual URG convention. Often the operators who would get the most from sessions on best practices are the same ones who think they don’t have the time to come. If you’re struggling, dig deep, and show up.

Published in the March 2017 Edition of American Recycler News