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The hidden dangers of concentration

risk

Many business owners are blissfully

unaware financing equipment through

their existing bank usually has that

equipment debt ‘bootstrapped’ to any

other securities the bank may hold (such

as properties and other owned assets

within the business). This bootstrapping

typically comes in two forms:

• Cross Collateralisation Clauses (which

sees all debt with the bank secured by

all security held by the bank);

• General Security Agreements (GSA)

which is the new term for the old Fixed

and Floating Charges or Registered

Equitable Mortgages (REM), which

means the bank owns all assets of the

business under this GSA.

Typically the banks do not go out of their

way to tell business owners about these

overarching securities, however it is most

often the reality and a simple company

search will tell a business owner if a GSA

is in place over their business.

Finally, the sleeping dragon in this

situation most often rears its head when

a business looks to change banks and the

outgoing bank insists upon all equipment

finance being paid out and the penalties

incurred on contracts which are early to

mid-term at that point. As an indication

of those penalties, the cost to terminate

a $1 million equipment loan which is

one year into a five year transaction is

typically in the order of $40,000.

In a world where there are a dozen or so

competitive banks and financiers keen

to finance equipment in its own right

without this bootstrapping, a company’s

existing bank is probably the worst place

to have their equipment debt.

The existing bank does have a role

to play in funding working capital

such as overdrafts as well as property

based requirements and under these

circumstances, the bank having the

benefit of property equity via mortgages

over properties is completely relevant and

commercially acceptable.

The provision of a GSA to a bank should

only ever be granted by a business as a

last resort as it is in effect the granting

of a mortgage to the bank over the entire

company.

Getting equipment finance right

By Miles Beamish – Senior Business Finance Broker – Finlease

Spreading the risk

Many businesses spread their equipment

debt across three or four financiers

because this creates a stable platform of

supportive lenders for future growth as

well as creating competition between

those financiers to ensure competitive

structures and rates are provided. This

can be done by the client or through the

use of a capable finance broker.

Remember, these lenders have no other

asset as hard security other than the

equipment they have financed.

The true effect of interest rates

In this increasingly competitive

environment where business owners are

constantly squeezed on margins, any

saving in expenses is beneficial.

Based on a simple $1 million debt over a

five year term, this is worth noting:

• At 5.5% the payments are $19,100p/m;

• At 4.5% the payments are $18,645p/m.

The difference of $455p/m over the

60 month term is $27,300.

To put this into perspective, where a

business has a net profit margin of 5%, an

additional $546,000 in turnover is required

to offset this additional $27,300 cost, so

attention to the cost of finance is always

a worthwhile exercise.

Dispelling the myths

Refinancing existing equipment debts

towards the latter part of the existing

contracts (in the last 12–18 months) can

be done through an increasing number

of financiers. There are minimal penalties

involved to do so at this later stage, the

current interest rates would typically

be around 2% less than the initial debt

and the refinancing of those existing

debts on long-term assets will usually

substantially reduce the existing monthly

commitments and in doing so free up

cash flow which can cover in part the

cost of additional equipment.

Equipment finance can be written with

payments monthly in arrears to allow a

30 day payment delay to assist cash flow.

The cost differential between monthly

in advance and monthly in arrears is

minuscule.

Example on $1 milion over five years:

• Monthly in advance $18,573p/m;

• Monthly in arrears $18,645p/m.

Used equipment including private

sales can easily be financed, saving

businesses significant dollars on the

cost of equipment. Care does need to

be taken around ensuring clear title on

private sale assets, including company

searches on the vendor to ensure there

is no dedicated debt on the asset or

overarching GSA by their bank. A

simple PPSR search will show up on any

interests held on those assets being sold.

Major refurbishments of existing plant

can also be financed on a term equipment

debt, no different to repowering the

engines of an aircraft where the value

of the aircraft is substantially increased

through this process.

Choosing the right structure (CHP V

Chattel Mortgage)

Beware of the pitfalls of Ad Valorem

Stamp Duty which has been abolished in

all states except NSW. Those businesses

in NSW can incur this unnecessary stamp

duty expense through the use of a Chattel

Mortgage instead of Commercial Hire

Purchase (CHP).

Stamp duty on a $1 million machine

under chattel mortgage is $3,941 (add this

to the cost shown above in interest rates

and the dollars are starting to add up).

This cost is not incurred through CHP

and although there is GST payable on the

interest component of CHP, the GST is a

refundable expense.

Choosing the right term and

residual/balloon

Business owners should ensure the

term and residual/balloon they want on

their long-term assets is the structure

that suits them and not what the bank

dictates. The same applies to deposits

and GST. There are many competitive

lenders out there so business owners

should shop around until they get the

right structure.

Being forced to pay off a $1mil asset

(which has a 10 year plus lifespan) over

five years at $18,645p/m maybe too

heavy on cash flow. Perhaps a five year

term with a 40% balloon at $12,865p/m

followed by the refinancing of that

$400,000 balloon over a subsequent five

years at $7,460p/m is a better outcome.

Contact Miles on: 0410 774 506 or email:

miles@finlease.com.au

HIRE AND RENTAL NEWS • FEBRUARY 2016

42

BUSINESS MANAGEMENT