Sunday, October 21, 2012

Never Borrow Money For A Depreciating Asset

Well “Never” is a rather big and finite adverb. As you can tell from my previous essays, I am more of a believer in the possible, the whole “practice makes better” notion of life, usually steering away from absolutes like “Always” or “Never”. Well this story come from my childhood and at the time didn’t make much sense to a boy of about 6 to 8 years old. Now 40+ years later this idea continues to ring true, both professionally and personally.

My mom was a true New Yorker, born and raised in the Bayridge neighborhood of Brooklyn. At about the time of my birth, her childhood home was demolished as part of the construction of the Verrazano Narrows Bridge. In 1960 or 61, her parents and her sister, (the now famous Aunt Lorraine!) moved from Brooklyn to a new home on Long Island in the village of Baldwin. I grew up spending a few weeks each summer visiting our relatives on Long Island, enjoying trips to Jones Beach, the local amusement park (Nunnally’s), train rides into “The City”, and many other exotic destinations. My memories are filled with so many great women, my mother Arline, my Aunt Lorraine, their mother (my grandmother) Kunigunda, her sister Katherine and her sister-in-law Emma. What a treasure of caring, capable, kind and lovely individuals. I still remember playing cards on the screened porch after dinner on hot summer evenings, trying to master “Crazy 8’s” and the rest of the family just enjoying the rare chance to be together. While I have many memories and stories from these impactful women, this story emanates from my maternal grandfather, Fred Wark.

Grandpa Wark was a businessman and a long time employee of J.C. Penney (I actually never remember entering a Sears store as a child). I remember him as a slightly intimidating figure, pretty serious most of the time, but always glad to see his daughter visiting from Pennsylvania with his three grandchildren. As was common most mornings, he would get up early and before the day really got started, he would head down to the local deli for “the paper”, some rolls, and maybe some cold cuts and German potato salad for lunch. Well most mornings he would call for my older brother Mark to come along to be ‘his navigator,” and they would head out in the big Buick to the store. Well one morning, somehow I was asked to come along, probably from the encouragement of my mother, and I hopped into the back seat to keep a low profile. I have no recollection how the topic came up, whether it was shared to Mark or me, but somehow we were talking about his new car. In the haze of history I remember almost none of the conversation except one fragment of a sentence from my grandfather … “remember boys; never borrow money for a depreciating asset.”

As I said, I might have been 8 years old at the time, which would make Mark the wise old age of 13, but there was very little of that phrase that made any sense to this young boy. What was an asset? Depreciating??? No clue! I kind of understood borrowing money, even at that age my little sister Alice was lending me money at the amusement park for one more pinball game or at the beach for an Italian Ice; but how did any of these ideas go together? At the time I had absolutely no idea and it took years before I connected ay of the dots.

I studied Economics during undergrad and went straight onto grad school to earn my MBA. Through those academic experiences, I started learning more about assets, appreciation, depreciation, loan structures, etc. As is often the case, practical application brings many “academic” lessons into sharper focus. The same was true for me when I set off to buy my first new car soon after taking my first professional job after business school. It was the fall of 1986 and I was moving up to Wisconsin to take my first role as a Marketing Assistant for Kimberly Clark Corp, to go to work for Bruce Paynter as my first boss. (You can read more about Bruce in this blog by clicking on “Inspirations of Bruce” in the archive on the left.) Well I had my eye on a new 1986 Honda Civic (still one of my favorite cars I have ever owned) and went to the dealership to negotiate a “deal”. After a bit of back and forth we had settled in on a car and a price, to this day remembering that the car was just about $12,000 tax, tag title, etc. That was a lot of money for one newly minted graduate! The good news was with my new job, I qualified for a car loan with a nominal down payment. Good news, that gold 1986 Honda Civic was almost mine! At that time the car loan interest rates were about 12%, and I borrowed almost all of the $12,000 over 48 months. Pretty standard stuff!

I can still remember sitting in an open cube of the car salesman’s “office”, signing the papers and preparing to drive my prize off the lot. I am not sure if it was in the required paperwork, or an innocent question, but I asked after the 48 months had passed, how much would I have paid? With a $316 monthly payment, the calculation was pretty simple…. Just north of $15,000. I added a second question of how much would the car be worth after those same 48 months? After lots of hemming and hawing, depending on mileage, maintenance, and care, etc…. the salesman said about half the sales price. So wait a minute, after 4 years I would have paid $15,000 for a car that would be worth $6,000 the day I finished my payments! The words of my grandfather rang out in the night …. “never borrow money for a depreciating asset!!!” Well I did indeed buy the gold Civic that night, borrowing the $12,000, and I took all of the 48 months to pay it off (though we owned it for 8 years and over 125k miles).

I share this story as a bit of a lesson, deep from my youth, that has served me well over the past few decades in a time when access to available and seemingly “cheap” credit has had a tremendous impact (negatively) on our economy and our country. On a personal basis, it has reinforced the idea that every individual and family needs to be clear about what they can truly “afford”. We have heard a lot in this election cycle about our country’s deficit, and the burden it is for us today and for the future generations of our country. The same holds true personally. What is your personal “deficit”, and how much do you pay to support that amount of debt every month? Remembering Grandpa Wark, is your “deficit” primarily made up of a mortgage on a home/property that might have a chance to appreciate over time? Is it made up of college/education loans that you are paying off after graduation? If so, maybe not a bad idea since borrowing money for an appreciating asset is can actually be a great idea. Or is your “deficit” made up of credit card debt which is the accumulation of purchases/expenses for a myriad of depreciating purchases (maybe including a few depreciating assets)?

This same idea applies professionally. Regardless of the size and nature of a business, it’s critical to carefully review where and how you are spending your money. If you can borrow money to support the growth of a business, looking for ways to invest in “appreciating assets” then you are probably on the right track. On the other hand, if you are taking your valuable resources and spending them on wasteful expenses, lavish offices, self congratulatory entertainment, etc. then it’s time to rethink your priorities.

Keep Grandpa Wark in mind as you review monthly bills at home or as you review your next monthly/quarterly budget review at work. Are you aware of how you are spending your money? Are you using your resources wisely? Is your personal “deficit” a large burden for you and your family? Is your “deficit” devoted to appreciating assets (education, mortgages, etc) or is it primarily focused on daily expenses and depreciating assets. My encouragement is to take small steps at first, first become aware of where you are then take steps towards reducing your debt, your personal “deficit” and work hard to “never borrow money for a depreciating asset.”

Post Script: In a related vein, I needed to make a quick comment on the idea on the role of “depreciating assets” (namely cars) to define oneself. Too often I hear friends talk about what their cars “say” about them, their families, their politics, etc. As I mentioned in a recent essay (“An Inspiring August”), we should strive to be valued by the quality of our thoughts and the kindness and generosity of our actions to those in need or with less, NOT by what brand/model of car we choose to drive!