CREDIT A BUSINESS BUILDER 1. Increasing the working power of capital.—We have already noted that credit, by reason of its suit ability as a medium of exchange, makes it possible for commercial transactions to be carried on with much greater ease and freedom than when settle ments are required in goods or money. Another and equally beneficial service rendered by credit is that it permits the merchant to increase the working power of his capital. With a capital of $10,000 he may readily be able by means of credit to do a business involving the use of $20,000. Accordingly part of his profits would be made from the use of money not his own. The $10,000 belonging to his creditors would be made to yield him a profit just as if that sum were his own. Under favorable circumstances that part of his working capital which belongs to his creditors may even be much the larger of the two.
It is evident that when a manufacturer or whole saler places a quantity of his goods in a retail dealer's hands he virtually gives him the use of his capital to that extent for the period of the credit term, whether this be one of thirty, sixty or ninety days. To the retail merchant this means much more than the value of money as measured by the usual interest rate. In other words, if, money may be borrowed from the bank at an annual interest rate of, say, five per cent, the value of the credit which the merchant obtains from the wholesaler is normally much greater. For, as already pointed out, by means of such credit the former makes a merchandising profit upon the capital employed—generally more than double the amount of the banking rate of interest.
2. Excessive credit a danger.—We must not con clude, however, from the foregoing that by increas ing his credit indefinitely the merchant also neces sarily increases his profits. Credit in his case, in order to be beneficial, must bear a fixed relation to the volume of business permitted by local conditions. If, for example, the character of the business, the neighborhood in which the store is located, or other causes restrict the possible volume of business to a certain amount, it is evident that no additional amount of credit extended to that dealer will make it possible for him to sell more goods. If used beyond a cer
tain point, credit, instead of remaining a friend and helper, may become not only a useless burden, but a foe and at times even a destroyer. Unless the mer chant possess sufficient business capacity to determine in advance, and with reasonable accuracy, the total volume of his annual sales, and unless he is able to proportion that volume rightly among his various de partments, he is in danger of being misled by alluring offers of credit and as a result may overstock him self with goods which for the time being, at least, he will be unable to sell.
This condition results in the tying up of capital and credit where they are unable to serve him, thereby diminishing his active resources in an equal amount and placing additional burdens upon the re mainder of his capital. Frequently these burdens become too heavy for their weakened support, so that when accounts mature and payments are demanded, sufficient funds are not at hand to meet them. A state of delinquency is the result. Presently, unless in some way the burden is lifted, the delinquency spreads to accounts with other creditors, and before long a state of insolvency is induced, compelling creditors for their own protection to step in and demand an ad justment of the dealer's affairs, either with or without his consent and cooperation. For this reason over buying, by which is understood buying in excess of the actual demands of his trade, is one of the great est dangers to which the average retail merchant is exposed. Against this danger every properly con ducted wholesale and manufacturing concern is con stantly on the watch.
Where, on the other hand, the dealer's situation is one in which a larger volume of business could be done provided additional capital were available for pur poses of increasing stocks of salable merchandise, the employment of additional credit is not only in it self perfectly legitimate but also distinctly profitable to both dealer and supply house.