Are interest rates really that low? A peek into a modern-day startup business.


Yes, this is a legitimate loan offer in a recent piece of mail, and yes there is a back story.  But first I would like to compare this with interest rates for savers:

ameritrade bond rates

This screen shot is from my ameritrade account.  I had trouble finding any decent rate tables online, and I simply couldn’t find anything to include for high yield corporate bond yields which is a shame.  The best I could do was look up individual high yield corporate bonds on ameritrade – and less than 2 year CCC debt had yield-to-maturities all over the map from 3% to 35%.  The high yield side reminds me of the yields I saw on exchange-traded debt for GM corporate debt back in 2008.

Anyway, this is what the yields looked like from my startup business:

Card APR
USAA Personal Loan 10.00
USAA Mastercard 10.00
Bank of America Mastercard 15.24
Citibank Mastercard 15.24
American Express Jetblue 15.24
American Express Blue Cash 12.24
Gap Visa 24.50
Macys American Express 24.50
Chase Visa 15.24
Bank of America Business-linked card 17.24

Most money from startups nowadays comes from personal credit card debt and personal loans.  If you are old enough to have purchased a home before the early 2000’s, then you can start a business with home equity loans – and savings plus family debt is another source of startup funding.  Keep in mind that startups are not done by rich people with brilliant ideas, but by middle class people frustrated with dead-end jobs or recent layoffs who see an opportunity and take it.

My story isn’t all that different.  At the USC Marshall School of Business, I focused on both finance and entrepreneurship.  Faced with a bleak job market and a recent layoff in 2012, I met up with a friend back home who was excellent at sales and knew the LED lighting market inside and out.  As a former project engineer in commercial construction, I had a lot of travel jobs under my belt which meant a great credit score and close to $40,000 worth of credit card yields.  I knew from case studies that banks will never lend to those who need it and that you always need more than you think in an early business, so I applied for cards like crazy early on and got my limits up to $80,000 on the cards you can see on the table above.  Adding in family debt, personal debt, and the amount my business partner was putting in we had a runway of probably about $120,000 to get our business flying.

With a solid idea, a good plan, and good financial capital we worked like crazy getting all of the specialized data together for the business – seeking out sources for our LED lighting types, ordering and testing samples, choosing our flagship lines and suppliers, etc.  We got a couple of friends involved as commission-only sales reps to get us leads and sell these things – with the idea of offering a large variety of options to businesses, getting them an energy audit and quote, and then ordering the bulk lighting after the project deal was signed.  We were doing energy audits and quotes like crazy and had the interest of big retail chains, hotels, casinos, small airport chains, auto dealerships, and even a large hospital.  If we completed any one of these and a chain went through, it could launch us into being a serious company overnight.

Unfortunately, even with a 1-2 year return on investment with a 5 year manufacturer warranty, it is still difficult to get these sales closed.  Our projects took much longer than anticipated to close with the customers, and the customers would be primarily smaller or family owned businesses like car washes and surf shops.  Our business model simply required bigger sales to go through, because smaller customers would take a lot of negotiation time & visits, gas money, installation costs, etc – and would cost us more from our suppliers because the order sizes were smaller – which really hurt our profit margin.  The fact that the state of california had it’s profit margin on all of this fixed at 8% of gross sales (sales tax) squeezed the margins on these deals even further.

Ultimately we sold over $150,000 in lighting and did over 150 energy audits/bids on large locations.  However, these were primarily smaller customers because the big guys preferred to use us for free labor to count their lights, hold onto our samples way too long for their corporate meetings, and then ultimately either purchase lights themselves from home depot and have maintenance slowly put them in during changeouts, or give the project to a big corporate competitor for double the price because they didn’t want to risk working with a small business.

Another little quirk I should mention is the information I learned from a free local business tax seminar with a nearby city.  I went in with questions like “is there any definitive information source that will tell me what forms I have to fill out for what agency”  answer “no”.  I went to speak with the IRS, CA Board of Equalization, CA Labor board, etc in their separate booths asking if they had any general schedules on what I needed to file with them and when, and answers of “you need to look through our website for that”.

The big bombshell came when one of the speakers was talking about the crackdown on using 1099 contract employees in the wrong situations.  I asked about my business and they said “Because your primary business is selling LED lights, all sales reps are core employees.  Therefore you cannot pay them as 1099 contractors, they have to be full employees earning at least minimum wage at 40 hours/week and you have to pay all of the associated payroll taxes and withholding for them”  I was shocked.  Not only was no system of monitoring the time of a sales rep in place or possible, but we were preparing to expand with sales reps in different states that we would never be able to monitor.  In addition, we still weren’t making any money – how could I, being broke and living with my parents, pay for even one sales rep … the payroll taxes alone were than 25% so I would have to pay $2000/month to give an employee $1500.  In a sense, the current interpretation could mean that a real-estate company could be heavily fined for having commission-only agents.

We kept going with the business of course – what choice did we have?  Immediately fire our friends and close down with great potential projects on the line?  I know from my case studies in entrepreneurship that most businesses start in a state that isn’t fully documented or legal (like the guys selling Life’s Good tee shirts out of their van – doubtful they paid all the taxes involved on that when they were living in the van and broke for the most part).

I never felt comfortable with my new quasi-legal status, along with the fact that I was putting in a lot of hours and receiving no compensation whatsoever.  After our sales reps left, we started looking for side jobs … me first of course because my business partner would have been able to make enough to get by focusing purely on small end sales if I could keep the base payments going ($100/mo rent, $100/mo virtual office, $100/mo dunn & bradstreet payments, website hosting fees, general taxes as they came up, etc).  This didn’t work out though – he got a job way before I did because he is an amazing salesman.  I filed for BK a few months later and then finally got a $19/hr temp to hire job after 5 months of searching.  That’s the backstory behind the interest rate I posted above – it’s legit, but I’m in the midst of a bankruptcy filing – and no, I’d never take that kind of a loan out … anyone who would grab at that kind of APR is either desperate (as in bail bonds) or has no plans to repay the money.

I doubt I’ll ever try at small business again.  It’s not just being broke and working for free – because the potential upside helps compensate for that – but the quasi-legal status really stresses me out.  Right now I just hope more than anything that I’ll be taken in as a full permanent employee in payroll.  I doubt I’ll ever see the kind of money again that I earned as a starting engineer back in the 2000’s, but I’m terrified of the prospect of fruitlessly searching for jobs again and I’m getting too old to be broke and living with my parents.

The labor market will improve someday – it always does.  In the near-term I think we are hitting another slowdown just like the 1937 recession during the great depression timeline … and it scares me that due to central bank intervention, overall debt levels of consumers, businesses, and governments have INCREASED dramatically since 2008 – and the next long term bull usually doesn’t begin until these show a dramatic decrease.

When the labor market does heal however, there is one thing I’m sure of:  It will start with the new grads and bypass my generation completely.  One of the Wall Street Journal articles mentioned ‘high youth unemployment in Europe and a developing a pleasure culture even in Germany.’  I find this to be a fascinating sociological trend and have seen many signs of this – “why work hard and smash my head against the corporate glass ceiling when I can just work, relax, barbecue with friends, drink beer, etc.”  I am trying to get more in tune with this sentiment … Hemingway’s The Sun Also Rises is a great depiction of this living for the moment culture, and I intend on staying single and joining where I can.

Final word:

In the past, I would have been much more conservative in my writing and share a lot less personal information.  I’d be afraid of potential employers finding it and turning me down, or other such negative reactions from society in general.  Right now, it feels good to just throw it all out there and say ‘hell with it, this is what’s really on my mind.’  Time to grab a beer and watch the Chargers!

About johnonstocks

I've been trading stocks since 2003, active on Motley Fool's discussion boards and using first Hidden Gems, then Global Gains. I no longer have the newsletters, but I keep up on the WSJ and read David Rosenberg everyday at Education: CFA level 2 candidate MBA-focus in Finance, Marshall, University of Southern California - expected Dec 2010. BS Mechanical Engineering, UC San Diego, June 2002
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