Download - Captive Finance Model
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What is captive finance?
Provides loans to consumers and dealers
Is a subsidiary of a parent company
Purpose is to enable sales of parent company products
Used widely in the automotive industry
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Why do we need a model?
Periodic review of company’s stability
Develop a healthier company
Fill a need Review of journals indicate no prior studies
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What is the model?F represents funding available to the company
Investment banksFederal loansCorporate industry banks
R represents the accounts receivableDealersConsumers
P represents the accounts payableRepayment to banksOperating expenses
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What are the constants?
k1 - the percentage of loans collected from the existing outstanding loan amount (portfolio)
k2 - the percentage of available funding provided as new loans
k3 - the percentage of total receivables spent on overhead costs, in addition to the fixed operational costs for the company
k4 - the percentage of collected loans paid towards accounts payable
k5 - the percentage of loans written off as operating losses due to bankruptcy, delinquency and credit losses
k6 - the percentage of current funding that can be obtained as new funding
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What do we do with all these variables and constants?
Funding:
Fn+1 = Fn + k1Rn – k2Fn – k3Rn – k4k1Rn + k6Fn
= (1 – k2 + k6)Fn + (k1 – k3 – k4k1)Rn
Payables:
Pn+1 = Pn – k4k1Rn
Receivables:
Rn+1 = Rn – k1Rn + k2Fn – k5Rn = k2Fn + (1 – k1 – k5)Rn
Profit:
Profit = Fn + Rn - Pn
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What do we do with all this now?Put it into a matrix, of course:
n
n
n
n
n
n
P
R
F
kk
kkk
kkkkkk
P
R
F
10
01
01
14
512
143162
1
1
1
0
0
0
14
512
143162
1
1
1
10
01
01
P
R
F
kk
kkk
kkkkkk
P
R
Fn
n
n
n
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How does the matrix help us?
Ran data using different values for all constants and variables
Produced tables showing current funding, payables and receivables
Graphed information
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Would you like to see what happened?G&A costs are greater than or equal to 1% of the
accounts receivable.
For this scenario, operating costs are too high for the
company to ever make a profit.
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Would you like to see what happened? Operating losses are greater than or equal to 1%
of the accounts receivable.
In this scenario, there are similar results. If the amount written off due to delinquencies and other losses is too high, the company will not be able to recover and achieve any profitable status.
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Would you like to see what happened? Accounts payable are repaid aggressively, rather
than as necessary.
This is actually a very profitable way to do business whenever possible. It creates a situation where the accounts receivable value is greater than the value of accounts payable in the long-term behavior of the model.
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Would you like to see what happened? The company is already in good financial
standing.
This scenario represents a business that would be profitable from the start. If the owner of such a company decided to sell, it would be a great investment for a buyer.
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What are the general results?
Not very sensitive to change in initial values
Not very sensitive to change in constant values (except k6)
Sensitive to relationships between variables and constants
Funding always levels off to a small percentage of the initial value.
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What would make it more realistic?Breaking down sub-models
Funding into different sources and interest ratesReceivables into dealer/consumer receivablesPayables into loan repayment, operating expenses
and operating lossesReceivables and payables into principle and interestOperating costs into fixed and variable costs
Obtain better approximations for constants
Let the constants vary or be functions
TEST and REFINE the model!!!!
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What can be determined from this model?
When is stability achieved?
What happens when the economy tanks and funding dries up?
How do you know when it is time to cash in?
What initial amount of funding must be available to earn a certain profit in a given time period?
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How can the calculations be simplified?
Diagonalizing the matrix makes the computations easier by hand and on a computer
Diagonalizing the matrix will also make it possible to solve the system explicitly
