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Comment: Making the Most of Memos
Consignment can be a lucrative arrangement for jewelers, as long as both merchants and suppliers take steps to protect themselves.
Feb 21, 2018 2:37 AM
By Robert A. Hoberman
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RAPAPORT... Effective inventory management is vital in the challenging
business environment the jewelry industry is experiencing lately. Insufficient
inventory can lead to lost sales; excess inventory ties up capital and incurs
finance charges when merchandise is acquired with loans.
For merchants, memos can improve inventory control and
reduce expenses. Memo financing is a consignment arrangement: A merchant
borrows merchandise from a supplier — a wholesaler or designer — and pays for
the item only after it’s sold, or returns it without penalty if it doesn’t
sell. This arrangement gives merchants access to a wider product range by
allowing them to tap into wholesalers’ and designers’ stock and acquire items
on short notice.
Memos also reduce up-front inventory costs and financing
charges. By delaying payment for the merchandise until it’s sold, the merchant
frees up capital and improves cash flow.
Suppose the amount of inventory a retail jeweler owns
averages $1 million. If the jeweler borrowed funds at a 7% interest rate to
cover that outlay, it creates an annual interest expense of $70,000, which
could be the difference between profitability and loss for the year. While memo
prices are typically high and could offset what a jeweler saves on interest,
taking goods on consignment can expand the merchant’s stock without requiring
additional credit.
‘Trust but verify’
Consigning merchandise creates risks for suppliers. A
dishonest merchant might refuse to return the loaned goods, and several recent
cases in which the unreturned consignments were valued at over $400,000
highlight this risk. Consequently, the borrower’s honesty is a key element for
a successful memo transaction. Creditworthiness is also important to ensure the
borrower can pay for sold items instead of diverting the funds to other uses.
“Trust but verify” is a sound strategy for evaluating
prospective borrowers’ honesty and creditworthiness. Business references can
share character insights based on their dealings with a merchant. Credit checks
and organizations like the Jewelers Board of Trade (JBT) and the Diamond
Dealers Club can provide information on a retailer’s financial condition.
Legal safeguards
Memo financing poses additional risks to both parties.
Suppliers must protect themselves against the possibility of damaged or lost
goods and the prospect of a borrower’s bankruptcy, while borrowers want to
avoid overly onerous repayment terms or other stipulations that could disrupt
their inventory management and sales.
But these risks are manageable, according to Debra Guzov,
founder of New York-based law firm Guzov, LLC, which specializes in corporate
transactions and litigation. “Memo financing does not have to be riddled with
risk and uncertainty,” she says. “Memos must be, and easily can be, drafted to
protect the interests of both parties.”
Filing a properly completed UCC-1 financing statement to
perfect the supplier’s security interest in the merchandise is essential, says
Guzov. (“Perfection” is a legal term for the steps required to maintain an enforceable
security interest in a property, meaning the property would be protected
against other creditors’ claims.) Should a merchant file for bankruptcy, the
UCC-1 form prioritizes the supplier’s claim over any other creditors’, ensuring
the latter cannot use the jewelry as collateral for their own claims.
Essentially, the form is a public filing declaring that the property does not
belong to the retailer.
Credit checks and careful attention to the memo’s details
are also necessary. “Couple the UCC-1 financing statement with a credit check
and a meticulously drafted memo setting forth provisions for the attribution of
risk of loss and comprehensive insurance requirements, and any risk inherent in
the transaction decreases appreciably,” Guzov adds.
A solid future
Although some suppliers restrict or avoid consignment
practices, it’s an important financing tool for many jewelry merchants and is
unlikely to become less prevalent. It is an established and enduring practice,
Guzov points out: “Although there is a risk, properly drafted consignments are
an effective business tool providing greater flexibility in the jewelry
industry, and they will continue to be used for a long time to come.”
How to minimize the risks
Memo transactions involve risk, but suppliers and merchants
can reduce potential problems by being diligent about the steps involved:
Memos between the supplier and merchant must be in writing
and signed by the merchant before goods are transferred.
Key components of the memo are specific provisions for
payment, bankruptcy, loss, theft and damage (especially during transit), as
well as insurance requirements.
Suppliers must file a UCC-1 statement covering the inventory
before transferring merchandise, in order to perfect a security interest in the
goods.
Both parties must have comprehensive insurance coverage and
provide evidence of the insurance before the goods are transferred.
If you are in this business and use memos frequently, it is
cost-effective to retain an attorney to provide your company with a template.
This
article was first published in the February issue of Rapaport
Magazine.
Robert A. Hoberman, CPA,
is the managing partner of accounting and consulting firm Hoberman & Lesser
in New York City.
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Tags:
consignment, Debra Guzov, Diamond Dealers Club, jbt, jewelers board of trade, Jewelry, Memo financing, memos, Rapaport News, Robert A. Hoberman
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