Floor plan Financing

Introduction

Floor plan Financing

Floor plan Financing or  Retail floor planning also referred to as  inventory financing is a short term loan used by retailers to purchase expensive automobiles. These loans are pledged against the inventory purchased .Floor plan financing is a revolving line of credit that permits the borrower to obtain financing for goods the borrower sells. These loans are made against inventories such as  motor vehicles, motor bikes, earthmoving machinery. When each piece of inventory is sold by the dealer, the loan advance against each sold good is repaid to the bank.

This means Dealer Floor Plan financing facilitates dealers to borrow against the inventory held in business. The dealer then repays that debt as they sell their inventory and borrows against the line of credit to add new inventory.

Benefits of Floor plan Financing in UAE

• Reduces cash flow problems
• Extend a line of credit for new or used automobiles, boats (including boat trailers), motorcycles and recreational vehicles
• You receive one convenient monthly bill for the interest due on all the inventory you have financed
• Flexible principal reduction options give you sufficient time to sell your inventory

Risk Element in Floor plan Financing in UAE

The entity at risk in this arrangement is the lender, who is relying upon the sale of the underlying assets in order to be repaid. Accordingly, the lender may demand the following:

• That all assets acquired under the floor planning arrangement be sold at a price that is no lower than its original purchase price.
• That the inventory of assets in stock is regularly counted and matched against the records of the lender.
• That the lender be repaid at once if there is any shortfall in the inventory count.
• That the loan be paid back no later than a certain date, thereby avoiding the risk of product obsolescence.

Floor planning may be a valid option when the seller of the goods does not have adequate financing to use other options.

Motor dealers are the prominent example of users of Floor Plan Finance – they have to carry a large volume of stock at high value, so they can supply vehicles to buyers in a timely manner.

Instead of using their own capital to pay the manufacturer, they use floor plan finance. The lender provides a line of credit against stock that is held. As the stock is sold, the debt is either repaid or new stock is purchased so at all times the financier has an agreed level of stock to secure the debt. If a stock check is done and there is insufficient stock then the dealer / borrower has to repay part of the finance.

Floor planning is commonly used in new and used car dealerships. Most car dealers do not pay cash for the vehicles in their business.It is possible for even smaller car dealers to have inventory of vehicles of millions of dollars of capital investment.

Most car dealerships floor plan their vehicles, and include the cost of financing inventory into their sale price. This also creates incentive for the dealers to turn around vehicles as quickly as possible because of interest that accrues on the floored vehicle. Floor planning costs can run into hundreds of thousands of dollars a month for a big multi-location dealer with large inventories.

In the case of new vehicles, they are generally floor planned by the manufacturer. With used car dealers, specialty finance companies cater to their industry.

Rather than offering loans for each individual vehicle purchase, most floor planning companies supply dealers with a revolving line of credit that they can use to acquire inventory, such as through automobile auctions.

Floor planning (flooring) vehicles is a way to acquire inventory, but can have negative consequences if payments (curtailments or payoffs) are not made on time. Curtailment schedules vary by floor plan providers, but generally range from 5%-20% of the original loan proceeds on each vehicle every 30/60/90/120 days. If curtailments are not made or the dealer enters into default their obligations, floor plan companies will take action to minimize their exposure. Those actions include attaching to the bond (not all states require dealers to have bonds), repossessing the collateral and other collection efforts.

Dealers of recreational vehicles, boats and major appliances may also use floor planning for all or part of their inventories.

How much inventory should a dealer stock  Floor plan Financing in UAE understanding with example

A dealer wanted to sell 60 units per month. Assuming the average turn time for vehicles on a dealer’s lot is 40 days, a dealer would turn their lot 9 times over the course of 12 months. This floor plan finance formula is essentially the following: monthly desired sales divided by how many times a lot is turned per year, multiplied by the number of months in a year.

In this situation, the dealer would need to stock 80 units based on 60 desired sales per month and a 40 day average turn time.

This time, instead of an average lot turn time of 40 days, the dealer turns his lot only 6 times a year, or has an average lot turn time of 60 days. For simplicity, the same number of monthly desired sales will be used. The only change has been the total yearly lot turn.

With an average 60 day lot turn, the dealer would need to stock 120 units.

How many sales should a dealer be making based on the units they have in stock for  Floor plan Financing in UAE
Knowing the target sales number a dealership should be working towards based on current inventory can help determine if a dealer is overstocked, or if the number of desired sales per month is realistic. Let’s say a dealer has 108 units in stock. Again, let’s assume a unit turn time of approximately 40 days, or a total lot turn over of 9 times over the course of 12 months. To figure out the number of desired sales, multiply the number of units in stock by 9, then divide that sum by the number of months in a year.

Based on the total number of units this particular dealer has in stock, they should be aiming to make 81 vehicle sales per month.

Let’s try this formula again with a 60 day average turn time and the same number of units in stock. To figure out the number of desired sales, multiply the number of units in stock by 6 (to account for the 60 day average turn time), then divide that sum by the number of months in a year.

With 108 units in current inventory and a 60 day average lot turn time, this dealer should aim to make 54 sales per month.

What is the unit holding cost per day for Floor plan financing in UAE

Every day that a unit sits on a lot, it costs a dealer money. Figuring out the holding cost per day allows dealers to determine what units need to be turned quickly, what units are able to sit for a while, or what units a dealer might need to consider selling at auction. This floor plan finance formula will require a dealer to have a good handle on total dealership expenses and inventory for the entire month. First, a dealer would need to figure out their monthly holding cost. To figure this out, a dealer would subtract their monthly selling expenses from their total expenses for the month. A dealer’s monthly selling expenses are variable monthly expenses that are not charged to the customer. These monthly selling expenses include items such as commissions, advertising, salaries, demo expenses and fuel. Let’s say a dealer’s total monthly expenses are AED148,485, and their monthly selling expenses are AED57,437.

Dealers can determine the monthly holding cost per unit once the monthly holding cost is figured out. The monthly holding cost per unit is found by dividing the monthly holding cost by the number of retail units in stock for the month. Let’s say this month a dealer had 85 units in stock.

Once the monthly holding cost per unit is figured out, it’s pretty simple to determine the holding cost per unit per day by dividing the monthly holding cost per unit by the number of selling days in a particular month. Selling days are the days that the dealership is open and available to make a sale. For example, let’s say that for a particular month there are 24 selling days available.

The holding cost per unit per day is a useful metric that can help a dealer keep their inventory balanced as well as determine how quickly a dealer might need to turn a unit.

Importance of the formula in Floor plan financing in UAE

These floor plan finance formulas incorporated with a dealer’s turn time can help to make or break a dealership’s profitability.

Let’s say a dealer makes a profit of AED3000 per car sold. If this dealer’s holding cost per day per unit is AED44.63 and their turn time to sell a car is 60 days, they will spend AED2677 of their profit holding on to a non-selling car.

What if a competing dealer’s turn time is 40 days? If everything else stays the same—the dealer’s AED3000 profit per car and the cost per day per unit remains AED44.63—but only the turn time changes, the competing dealer will only spend AED1785 out of AED3000 to sell the same unit.

A longer turn time for inventory affects dealer’s cash flow. A general rule of thumb is that once a unit moves past the 60 day point dealers should start thinking about what might become frozen capital, or a non-adequate return on investment. While every individual dealer will have to decide on their optimal turn time, break even point and subsequent exit strategy for inventory that isn’t sold within a desirable time period.

In any case, the math doesn’t lie. Quicker turn times not only increase profitability, but also help to keep cash flowing.

Conclusion

Using these floor plan finance formulas, you can gain a better understanding of the monthly balance of your inventory and cash flow. Are the dealership’s sales goals realistic? Is the lot overstocked? Is the holding cost per unit per day reasonable? Working through these floor plan finance formulas periodically and monitoring these three metrics is essential to ensuring the overall balance of inventory and cash flow in your dealership.

Reach Online VAT Accounting Software for Floor plan financing in UAE

Reach software ensures seamless recording of floor plan credit transactions in the business process. The software is carefully designed and developed to match all the requirements of car business operations. Feature of recording the floor transaction is so prominent that any inventory is kept in business for a specific period of time the software pops up the alert message about the same. Thus creating awareness to avoid unnecessary loss to the business. It is an accounting software that can automatically manage your book of accounts, taxes, inventory, sales, purchases and more online quickly and securely