INTEREST INSIGHT
Fixed Interest Rates;
Right for my Situation?
Jeff Houts, Executive VP, COO
Recent activity by the Federal
Reserve has been driving an
increase in short-term interest
rates. Since the middle of 2016,
long-term interest rates have also
trended higher. FCS Financial
offers a wide choice of interest rate
programs from short-term variable
to long-term fixed. With so many
choices, what factors should be
considered in making a decision
to use a fixed interest rate loan
product?
I believe choosing your loan
interest rate program should be put
into the context of your unique
financial and operating situation.
Agriculture is a diverse industry
with many different variables.
Often, broad statements and
generalizations just don’t apply.
To step away from
generalizations around choosing
whether a fixed rate product is
right for you, considering some
questions in specific areas has
been helpful to me in reaching a
thoughtful decision.
Consider your balance sheet.
How much total debt is present?
12 HEARTBEAT | SUMMER 2018
More debt increases potential
risk associated with interest rate
upswings. What is the value of
your cash or near cash assets
compared to your short-term
obligations – the amount you
have to pay during the current
operating cycle of your business?
Liquidity is the ability to pay
short-term obligations. Decreased
liquidity occurs when the value
of your cash assets subtracted
from your short-term obligations
is low. The less liquidity present
in a balance sheet the lower the
ability to take on additional risk or
operate through adversity without
special action to increase liquidity.
When total liabilities are higher
and liquidity is lower, fixed interest
rates should be considered to limit
the additional pressure on liquidity
which increasing interest cost will
bring.
Think about your cash flow.
How much positive margin
is present? How material on a
percentage basis is total interest
expense in relation to income and
profit margin? How much would
a 1 percent increase in interest
impact the profit margin? If a
modest increase in interest rate
materially impacts income and
ultimately profitability, then fixing
interest cost is a risk limiting tool
which should be considered.
Where in the life cycle is the
business? Growing a business
many times means using debt
capital to supplement owner’s
equity in supporting that growth.
Typically, that means there will be
debt outstanding over a number of
years. Duration of the time there
will be a loan balance outstanding
is an important factor to weigh as
you make a decision whether to
lock in a fixed interest rate. If you
expect to be growing the business
scale and using debt capital to
support growth, using some longer
term fixed interest debt can be
valuable in limiting overall interest
rate uncertainty.
Additionally, a loan duration
of more than 15 years regardless
of growth plans has a substantial
life cycle for market changes to
interest rates. If interest rates are
historically low in the cycle, trends
are moving higher and duration
for the debt is long term, fixed
rates should be a consideration for
limiting future risk of increased
cost which negatively impact profit
margins.
Compare historical interest
rate trends to what is being offered
today. Are there signals present
in the market place telling you
about the future cost of interest?
INTEREST: Continued on pg. 22.