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Inventory, Investment, and Perception

inventory investment

Baron von Rothschild, the 19th-century British banking magnate, had a succinct investment philosophy: “The time to buy is when there is blood in the streets, even if that blood is your own.” The Baron would know: He made a fortune in the panic that followed Napoleon’s defeat at the battle of Waterloo.

Modern-day billionaires echo the Baron’s philosophy. Warren Buffett and other “contrarian” investors scoop up deeply discounted corporate assets whenever markets turn down. In Buffet’s own words: “You pay a very high price in the stock market for a cheery consensus.”

Of course, in a depressed market, cash is king. It’s likely that von Rothschild and Buffett had money to invest. Even teenage entrepreneurs know the adage “it takes money to make money.” Cash-strapped antique dealers are aware of the “good deals” to be had in the current market, but many don’t have the cash or the credit to pursue the available opportunities. How, then, can an antique dealer raise the cash to take advantage of current depressed prices? The Baron had the answer in 1815: Shed some blood.

As I traveled and shopped at antique markets and shows last summer, I had the opportunity to speak with dealers and watch them ply their trade. I found four attitudes to be prevalent among the dealers at the shows I attended. The first concerns the overall business atmosphere, but the other three attitudes I found mostly among the dealers who complained that business was bad and they weren’t making any money. Here’s what I found:

1. There is a lot of business being done, despite the “troubled times.” Dealers were excited about the prices they were paying for fresh inventory. Consumers were still buying antiques and collectibles. Shows were attracting record numbers of attendees, and money was changing hands.

2. Many dealers were reluctant to sell any inventory at a loss. More than once, I observed a dealer walk away from a deal declaring, “I can’t sell that for less than I paid for it.” Dealers who persist in that philosophy may eventually find themselves facing a bankruptcy judge. In any free market, prices and values go up and down. Would these dealers expect the value of their stock portfolio to never go down? How about the value of their home?

The very definition of “market value” is what a willing buyer pays a willing seller, neither being under duress. Dealers, your inventory may be worth less than you think. What you paid for an item has absolutely nothing to do with what its market value is when the time comes to sell it.

Holding on to over-priced inventory slows your inventory turns, ties up your cash and increases your taxes. Either sell slow- moving items at a discount, or write down the cost basis of the inventory. Doing so will increase your cost-of-goods-sold and lower your gross profit, but it will also decrease your tax bill. In a down economy, do you really want to be paying more taxes?

When you sell the slow-moving inventory at a discount, you free up cash to buy new inventory that can turn over faster and increase your profitability. Yes, it’s sometimes difficult to take a loss on an item, but as von Rothschild said, sometimes the blood in the streets must be your own.

3. Some dealers were inclined to look at their inventory as a collection of individual items instead of an organic whole.

Inventory is an investment, much like a stock portfolio. Within the portfolio, individual stocks will rise and fall in value. At the end of the year, it is the performance of the portfolio as a whole that makes money or loses money. During the course of the year, individual stocks are evaluated as to their performance: Are they bringing a return on investment, or not?

If they are not, then they are sold at a loss, and new investments are made. Antique dealers must consider their inventory in the same way they would consider a stock portfolio: Is an individual item bringing a return on the investment, or is the item sitting on the floor attracting dust and tying up money?

Nonperforming assets (slow-moving inventory items) should be replaced with assets that will bring a return on investment. At the end of the year, the performance of the inventory as a whole is a major factor in profitability. Consider the most common method of accounting for inventory from the IRS Schedule C.

At tax time, the cost of goods sold comes down to starting inventory plus purchases minus ending inventory. Dealers would do well to perceive their inventory the same way the IRS does: as an organic whole.

4. Few dealers understand the relationship between inventory turnover and profitability. Many antique dealers entered the business because it was a passionate hobby, but they know little about retailing. They know that if they pay “X” for an item and sell it for less than “X” that they are losing money. When inventory is considered as an organic whole and as an investment, dealers learn that quickly turning inventory increases their return on investment.

For those who are new to the concept of inventory turnover, let’s review what inventory turnover is and how it impacts profitability. Inventory turnover reflects how often your inventory is sold and re-purchased (turned over) within an accounting period. The formula is Inventory Turnover = Cost Of Goods Sold / Average Dollar Value of Inventory On-hand. Turning inventory fast is good for cash flow and profits.

Here is an example: Let’s say your cost of goods sold for the year is $100,000 on sales of $200,000. The average value of your inventory is $50,000. $100,000/50,000 = 2. You turned your inventory twice for the year and made a gross profit of $50,000 on your $50,000 investment.

Not bad.

Now, let’s say that you are holding on to some slow-moving inventory, and the average value of your inventory goes up to $75,000. So let’s figure the inventory turnover: $100,000/$75,000 = 1.3. You turned your inventory 1.3 times and made only $25,000 on your inventory investment. You made half as much money at the same sales level because your inventory was not turning as fast.

Dealers who did well this past summer were those who sold their inventory for what the market would bear (even at a loss) and then refreshed their inventory while buying at low prices. Dealers who did poorly were those who held on to overvalued inventory and had no money to reinvest. The difference between success and failure was that some dealers were willing to see blood in the streets, even if it was their own.

Previously published in Antique Trader Magazine

Originally posted 2017-11-05 22:07:39.

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