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Rising Interest Rates: Financing Now Can Earn Huge Returns

Given the rising interest rate environment, many businesses planning equipment acquisitions are faced with crucial decisions. 

Federal Reserve officials have forecasted an average federal funds rate of 1.9% for 2022. The federal funds rate serves as a benchmark interest rate that determines the cost of borrowing for many loans. After the recent May 4th interest rate hike (the largest increase since 2000), the federal funds rate currently sits at 0.75% to 1.0%, indicating that interest rates are likely to increase by an additional 1% during this year. 

As such, we find ourselves asking the question: Is it better to finance now at a lower rate, or finance later at a higher rate? We believe that choosing to finance now at a lower interest rate is a great option for most businesses.

From an interest savings perspective, it will always be preferable to finance now rather than later during a rising interest rate environment. 

However, businesses must decide whether the interest savings is worth the upfront cash flow tradeoff. The decision to finance now or finance later ultimately comes down to how highly the business values cash flow in earlier months.

Scenario #1: How much will a 0.50% increase cost me?

  • Business A and Business B finance $1MM of equipment with a 60-month term.
  • Business A chooses to finance now and locks in a 6.00% interest rate.
  • Business B chooses to finance in 12 months and locks in a 6.50% rate (as compared to 7.00% in scenario #1).

Related News: The Fed recently approved a 0.50% interest rate increase to fight inflation and some Fed officials are advocating for raising the target closer to 2.5% by the end of the year.

In the above scenario, Business A saves $28.0k of interest, as compared to Business B, the business that chose to finance later. Business A begins making payments today and makes $231.9k of payments during the first year. Business B chooses to finance later and doesn’t begin making payments until the 13th month. 

Business A, the business that chooses to finance now effectively receives $28.0k of interest savings for the $231.9k cash flow commitment during the first 12 months, allowing for an effective rate of return of 12.1%. 

Additionally, Business B will have to make $234k of payments during the 6th year, while the company that chooses to finance now will not.

Scenario #2: How much will a 1.00% increase cost me?

  • Business A and Business B finance $1MM of equipment with a 60-month term.
  • Business A chooses to finance now and locks in a 6.00% interest rate.
  • Business B chooses to finance later and waits 12 months and locks in a 7.00% rate.

In the above scenario, Business A, the company that chooses to finance now saves $56.2k of interest, as compared to Business B. Business A begins making payments today and makes $231.9k of payments during the first year. 

Business A effectively receives $56.2k of interest savings for the $231.9k cash flow commitment during the first 12 months, allowing for an effective rate of return of 24.2%. 

Additionally, Business B will have to make $237k of payments during the 6th year, while the company that chooses to finance now will not. 

Financing Before Additional Rate Increases is the Shrewd Move

In both of the above scenarios, the business that chose to finance now was able to secure a significant reduction in interest expense, as compared to the business that chose to finance later. When the interest rates increased by 1.0%, Business A was able to save $56k in interest, implying a 24.2% return on the cash flow required for the first 12 months of payments. When interest rates increased by 0.5%, Business A was able to secure a more modest interest savings of $28k, implying a 12.1% return.

If you are a business with liquidity to pay upfront, financing before the industry increase is the smart way to go because it has the potential to save you substantially in interest expenses. For more interest rate information, schedule a strategy session with EFFI to consult an expert in business financing.

How Will the Russian Invasion of Ukraine Impact the US Economy?

While the Russian invasion of Ukraine in late February 2022 has been tragic for Ukrainians and many around the world, we believe that the United States’ economy will be largely insulated from the impacts of the conflict. 

The conflict may lead to temporarily elevated fuel prices and a reduction in trade with Russia, but we believe that the US will remain poised for continued growth.

Additionally, the conflict has resulted in a more cautious Federal Reserve, indicating that we may see fewer interest rate hikes than initially anticipated. 

Lastly, shale oil producers may provide some relief for increasing oil prices.

The US Trade Value Loss Would Be Less Than One Percent of Total

The US maintains a relatively insubstantial trade relationship with Russia. According to the Office of the United States Trade Representative, the US exported $10.9 billion of goods and services to Russia during 2019. This means that Russia accounted for approx. 0.1% of the total $10.0 trillion of US exports during 2019. 

Similarly, Russia accounted for $24.0 billion of goods and services imported into the United States during 2019. This represents approx. 0.2% of the $12.46 trillion of goods and services imported into the United States. 

With these facts in mind, the US trade relationship with Russia is a very small portion of the US’ overall trade exposure.

While the US has not taken a direct role in the conflict, the US appears to be willing to provide both military and humanitarian aid, with congress authorizing over $54 billion of aid to Ukraine. 

Russian Sanctions & Ukrainian Support Is the Stance of USA & Allies

 US aid to Ukraine included $12.5 Billion of weapons, $9.4 Billion of economic support, $8.1 Billion of military intelligence, $7.0 Billion of food & health care assistance, and $6.0 Billion of military assistance.

The war in Ukraine comes at a time of transition for the Federal Reserve and the US economy.

In response to the conflict, US policymakers imposed sanctions on Russian institutions and individuals. The US has prohibited Russian financial institutions from conducting transactions in US dollars. US, Canadian, and European allies agreed to prohibit certain Russian banks from accessing the SWIFT network, which connects over 10,000 financial

institutions. The US has also blocked the exports of US technology into Russia, which will hamper Russia’s development of its military and aerospace sectors. The US directly sanctioned certain individuals with ties to the Russian government.

Additionally, the US has prohibited 13 state-owned companies from raising money in the United States. Sanctions put in place by the US and other allies have caused a collapse in value of the Russian Ruble. Between February 21, 2022 and March 7, 2022, the exchange rate between the Ruble and USD was nearly cut in half. Lastly, many private American businesses, such as Visa. Apple, McDonald’s, and Starbucks have reduced or halted their operations in Russia.

Fuel Price Spike Should Only Be Short Term

As a result of the conflict, the United States banned imports of Russian oil. In 2020, Russia supplied the global economy with $72.6 billion of oil exports, or 11% of the total exported volume. Russia was second only to Saudi Arabia in terms of oil export volume.

Gas prices are likely to remain elevated for the short term, but will likely  decrease when  American shale oil companies increase their production.

However, Russian oil represented an insubstantial portion of American oil imports, approximately 3%. Nonetheless, the conflict led to a surge in gas prices, with the US average gas price spiking to an all-time high of $4.59 per gallon in May 2022. This represented an increase by over $1 as compared to the week before the Russian invasion. In California, the country’s most expensive state for fuel, the average gas price exceeded $6.00.

As the situation evolves, gas prices are likely to remain elevated for the short term. However, the increase in fuel prices is unlikely to be sustained over the long term. If oil prices remain elevated, American shale oil companies will be incentivized to increase their production, despite their higher costs. 

Essentially, the shale oil companies may serve as a pressure relief valve. If oil prices get too high (as we are presently seeing) we would expect that  shale oil companies  would relieve this pressure by providing additional output.

This Will Be a Unique Time for the Federal Reserve

The Russian invasion of Ukraine comes at a time of transition for the Federal Reserve and the US economy. Spurred by a 40-year high in inflation, the Fed has indicated that they would be raising rates during 2022. Initially, some Wall Street firms were anticipating  a federal funds rate of 2.75% to 3.0% by the end of 2022.

However, the conflict has resulted in a somewhat softer Fed. Traders are now expecting interest rates to reach 2.5% to 2.75% by the end of 2022. Concerning the conflict between Russia and Ukraine, Federal Reserve chairman Jerome Powell said, “The implications for the US economy are highly uncertain, and we will be monitoring the situation closely,” and that the central bank will “need to be nimble in responding to incoming data and the evolving outlook.”

While the conflict has led to tragedy for many Ukrainians, the US remains somewhat insulated from Russia. The US has instituted sanctions on multiple sectors of the Russian economy to disincentivize further escalation. While the conflict caused a surge in fuel prices, it has also provided additional opportunities for domestic shale producers. Lastly, the conflict has resulted in a more cautious Fed and will likely result in a reduced number of interest rate hikes.

The Impact of the Russian Invasion in Ukraine FAQs

How will the Russia & Ukrainian war affect the economy?

The Russia and Ukrainian war has already had a profound impact on oil prices , however American shale production will help alleviate the pricing pressure. We project that the short term spike in gas prices will not sustain itself.

How much oil does the US get from Russia?

The US has banned imports of Russian oil in response to their invasion of Ukraine, but in 2020 Russia supplied the world with $72.6 billion of oil exports (11% of the total exported volume of oil). However, only 3% of American oil imports were from Russia.

Why did Putin and Russia decide to invade Ukraine?

According to BBC News, Russian President Vladimir Putin’s original goal was to “demilitarize and de-Nazify Ukraine”. He made the unsubstantiated claim that Russian people have been subject to bullying and genocide by Ukraine’s government. Putin’s decision to invade has triggered the largest refugee crisis since World War II and is internationally condemned.

How to Improve Your Business with Construction Equipment Loans

With equipment financing becoming more accessible to business owners, you may have considered acquiring a loan for your construction business. A construction equipment loan can help out your business in many ways. Let’s look at some of these benefits and discuss how you can make the most out of a loan if you choose to take one.

Use a Loan To Acquire Better Equipment

Construction equipment can be expensive, and facilitating the purchase of such equipment with cash can leave a significant dent in your reserves. Or maybe your current budget significantly limits your options regarding the equipment you can purchase.

Crane and building construction site against blue sky

Taking an equipment loan can solve these issues since you only pay a fraction of the total cost as a down payment, enabling you to afford higher quality equipment that you would not have otherwise acquired. When used effectively, high-quality equipment can generate a great return on investment that often ends up paying for itself.

This is especially true in the construction business, which relies highly on the quality of the equipment used. Good equipment can make or break your business, so utilizing a loan will often be a good decision in hindsight.

Outdated construction equipment is a safety hazard for your workers. As a business owner, you stand to be held accountable for accidents that may result from outdated machinery. Additionally, such events will damage your reputation and affect the continued success of your business.

Leveraging loans can enable you to upgrade to or acquire new equipment that is up-to-date compliant with the safety standards in your industry.

Using a Loan To Improve Your Service Quality

As previously mentioned, a construction business relies much more on the quality of the equipment used. Having better equipment will improve the quality of the service you offer your clients, increase customer trust and satisfaction, get referrals and expand your services to a wider audience overall.

Additionally, the nature of the equipment used in construction plays a significant role in the overall speed and efficiency of your construction workers’ output. Increasing productivity and saving time are achieved by using superior equipment, something that equipment financing can help you achieve.

Leveraging Construction Equipment Loans To Improve Credit History

Acquiring a construction equipment loan can positively influence your credit history, especially if your business is new. A better credit history, in turn, allows you to obtain larger loans with lower interest rates in the future.

It also increases the likelihood of you getting a favorable loan on the spot in case you need funds to seize an opportunity.

If you are looking to expand your construction business, you may find yourself taking business loans from time to time (whether for equipment or otherwise). A construction equipment loan, which is relatively straightforward to acquire with flexible payment plans, will set you off on the right foot.

Acquire Large Lines of Credit

EFFI provides exceptional equipment finance solutions for enterprise clients ranging from $500,000 to $20,000,000. We have years of experience financing construction equipment such as asphalt and concrete pavers. We also have helped companies secure lines of credit to accommodate their construction business needs. 

For example, a family-owned, Utah-based paving company had an existing $2MM line of credit with a leading middle-market bank. However, the management team had grown dissatisfied with the service that they were receiving.

Additionally, the bank did not increase the size of the line alongside the company’s growth. While equipment finance is the primary focus of EFFI, we were able to facilitate a larger $3MM line of credit for the company. This will provide the company with additional liquidity during the seasonally slower winter months. Read up for more about EFFI’s funded projects in aviation and other industries as well.

Tax Deductions

As icing on the cake, you can obtain tax deductions on the loans you pay for equipment financing. This may vary slightly on a case-by-case basis, but to find out if you’re eligible for tax deductions, consult EFFI financial experts to learn more.

5 Reasons Equipment Financing Makes Great Business Sense

At first glance, it may seem unfeasible to utilize equipment financing as an option over paying directly with cash. Especially in the case of a loan, as you’ll end up paying more due to accruing interest over the repayment period. While this may be true in many cases, there are real, notable benefits that come with equipment financing.

Here are five reasons equipment financing makes great business sense –

  1. Improves cash flow
  2. Improves credit score
  3. Low-interest rates
  4. Higher quality equipment
  5. Greater potential for growth

Improves Cash Flow

As you probably know, cash is king. It is a foundational element in any business. The primary benefit of using cash for purchasing equipment would be the fact that it’s a straightforward process. The transaction is carried out instantly, there’s comparatively very little paperwork involved, and you acquire full ownership of the equipment upon purchase.

It’s precisely this importance of cash that gives equipment financing the primary benefit of improving cash flow.

A significant part of business expenses already demand a steady supply of cash. This makes it crucial to maintain cash reserves at all times. Therefore, using up a substantial portion of your available money on equipment may not be the best strategy for your business as a whole. Financing is an option that can free up fluidity for other budget requirements in different areas of your business.

Making smaller payments over time is more manageable than paying out a larger lump sum upfront. Equipment financing ensures that your business will always have cash when it needs it. In the event of an emergency or the presence of an opportunity, you will be prepared with cash.

Improves Credit Score

Using equipment financing is a great way to improve your business’s credit score. A higher credit score enables your business to acquire loans more successfully, on better terms, and with lower interest rates.

Leveraging low-interest rates on equipment has the potential to create larger returns on your equipment investments.

Seeking equipment financing and paying it off promptly significantly develops your business’s credit score. It can make future business financing a breeze and act as an essential safety measure in down times. Being able to acquire a loan at a low-interest rate readily can be very useful down the road.

By contrast, not having an acceptable credit score makes acquiring future financing in a timely and favorable manner much more challenging.

Low-Interest Rates

Businesses can attain equipment financing at interest rates starting at 2%. This range is primarily dictated by factors such as your business’s length of operation, current cash reserves, and credit score. This rate can often prove favorable depending on the equipment you need financing on.

Leveraging low-interest rates on equipment can put your business in a better position. In some cases, you can create larger returns than the cost of the interest paid on financing the right equipment.

This, of course, is something that has to be appropriately analyzed. Consulting a financial advisor about the feasibility of financing will help you make an informed decision.

Schedule a strategy session with EFFI to consult an expert in business financing.

Higher Quality Equipment

High-quality equipment does not come cheap. This leaves many businesses with the options of settling for substandard equipment, jeopardizing their quality, using up most of their cash reserves, or saving up for machinery (which will likely take time).

Higher quality is typically the better option rather than sacrificing for cheaper options, and oftentimes end up saving you money in the long run with better performance and durability.

Equipment financing solves these problems. It allows your business to procure higher quality, more expensive, but much-needed equipment on a flexible long-term payment plan.

Greater Potential For Growth

This is especially true for newer businesses that are looking to expand. The right equipment could be the push your business needs to propel it in the right direction.

For cash crunched businesses, equipment financing can make things a lot easier. A proper payment plan will allow you to use the gradual returns from the equipment to pay off the purchase cost. This can lead to a self-sustaining payment system, where you get ownership of the equipment once payment is complete.

It’s also important to consider that sudden opportunities that require cash may present themselves from time to time. Lack of cash can allow the chance to slip away while you attempt to gather funds. Financing will enable you to have equipment and cash reserves, enabling you to take advantage of these opportunities fully.