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Why Barter?
Business people barter because they are able to finance the purchases of things they need out of additional sales of their own product or service. When a merchant buys something using barter credits, he knows that the purchase is being offset (i.e., paid for) in whole or in part by extra sales, out of excess inventory or spare capacity, to the barter company or its clients. Barter is a relatively inexpensive method of finance, based on exchanging less productive assets for valuable products or services. Through barter, a firm buys what it needs at the carrying cost of its inventory, thus reducing its cash outlay for the things it buys.
In a cash situation, the cash spent by the merchant for the same purchase would have to come out of existing sales, not new sales. He has no assurance, when he makes a cash purchase, that this will result in additional sales of his own product.
Barter permits additional sales at one's normal retail price or carrying cost. Barter sales are an increment over and above cash sales, usually not amounting to more than 10-15 percent of total business. To take advantage of barter, a firm must have spare capacity to take on additional sales.
As an example, take a business owner who does a good deal of business-related entertaining. He joins a barter exchange and notes that several restaurants are members. Other things being equal, he has an incentive to switch his business to the barter restaurants because (a) he won't have to reduce his cash flow (out of his cash sales) for this business expense, but instead, (b) he can finance this expense out of his additional barter sales. Members of the barter exchange, in other words, go out of their way to deal with other members, because they are able to pay for things they buy out of extra sales and not out of their cash, which stays in the till.
As another example, take a business that is carrying obsolete inventory in its warehouse. Rather than liquidate this unproductive asset for cash at a liquidation price of a few cents on the dollar, it can sell the inventory to a barter company for a price in barter credits close to carrying cost or book value. It can then use these barter credits to purchase valuable products or services form the barter company.
Barter aids the businessman who has reached a certain level of cash sales and still has the capacity to expand output; or who has excess inventory or unproductive assets. Few and fortunate, indeed, are the business people who, having made an investment in plant and equipment, find themselves operating at full or over-full capacity. For most firms, spare capacity and obsolescent or unused inventory are a normal occurrence, with a powerful economic plus: they permit additional sales at relatively low incremental cost. Barter permits a firm, and the economy at large, to capitalize unproductive assets and spare capacity, instead of allowing such assets to lie dormant.
As a method of marketing one's product or service, or exchanging unwanted assets, barter has the advantage of recovering a significant amount of incremental revenue that might otherwise has been foregone.
Examples are the printer, with large sunk costs in equipment, but relatively low cost of additional output; the hotel rooms unfilled; the dentist with time to take more patients; the radio or television station with unsold advertising. These firms are foregoing income from their unused capacity. If shown how to stimulate addition sales through barter, they have a strong incentive to make those sales as long as they can cover their costs.
As long as incremental revenue exceeds incremental cost, it will profit a firm to engage in barter exchange. The barter company's commission and other charges must be included in the cost calculation, but these charges are normally not a deterrent to barter. Indeed, the largest cost a firm can experience is the foregone income by not selling in barter. In many cases, firms might find it profitable to pay an even higher commission in order to have the opportunity to reap additional profits through a barter exchange.
The economic advantages of barter can be seen by comparing a firm's position before and after barter.
We see that:
- barter results in additional revenue, hence added profit;
- barter enables a firm to conserve its cash, resulting in better liquidity and a saving equal to the ongoing cost of money.
In the final analysis, the most advantageous way for business people to finance their purchases is through additional sales of their own product or unwanted assets. The success of commercial barter lies in stimulating these additional sales, while conserving cash.
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