That Time of Year: The Annual Physical Parts Inventory

Date December 4, 2019
Categories

While the holiday season is filled with events we all look forward to, one tradition that doesn’t typically generate much enthusiasm is the annual physical parts inventory. It is usually a daunting, dreaded task, disruptive to your business and employees’ personal lives, and fraught with potential drama.

Of course, the annual rite is a necessary one, a fundamental internal control practice. And whether it’s a third party vendor conducting the process or the parts manager overseeing departmental employees, there are only two possible outcomes: one, physical inventory is greater than that what is indicated in general ledger; or two, the GL balance is greater than what’s actually there.

The first is usually received with great relief, although it shouldn’t be. Inaccuracy is a problem. The cause of the disparity should be determined, so that it can be fixed or at least explained and doesn’t become the source of a bigger problem. But it’s when the GL balance is greater than the physical inventory that the commotion begins. Is someone stealing? Or just sloppy? One is more serious than the other, but both can cost the dealership a lot of money.

We’ve worked with dealers since 1984 and conducted hundreds of inventories, and in the vast majority of cases we’ve found the causes of deficient physical inventories are honest mistakes, most often parts provided for a repair job that aren’t recorded on the job order.

The easiest way to eliminate much of the hassle and most of the fuss associated with annual inventories is to reconcile more frequently than once a year. We recommend monthly. Deviations that occur within a period of 30 days are far easier to identify, and tracking inventory throughout the year makes the final annual reconciliation much simpler, more accurate and far less of a disruption. It can take as little as an hour a month using an Excel-based tool that identifies errors and helps pinpoint whether they are in the parts or accounting department. (We’ll send you a tool we’ve developed to assist the process. See contact information below.)

One common approach to monthly inventories is the process of cycle counts. Separate parts into 12 sections and count one each month. In addition to the month’s parts sector, spot-check other bins randomly. Most importantly, check high sales volume and high cost parts; high sales volume parts are typically those that don’t get listed on a repair order, and high-priced as well as easily marketed parts are more likely to be stolen. Obsolete parts, for both reasons, are rarely an issue.

We advise dealers finding disparities not to be hasty in accusing anyone of theft. The consequences of a false accusation can be devastating to both employee and dealership. If theft is expected, we recommend bringing in an outside party for an independent, objective inventory investigation. As well, install a better process, which starts with two practices: no one other than parts personnel should be allowed access to the parts shelves, and no part should ever be handed across the counter without being charged to a ticket.

Good communications between parts and accounting departments is also vital. If a parts manager buys parts from vendors other than the manufacturer, good communication ensures the parts are bought and sold at proper prices.

Dealers have hundreds of thousands, if not millions, of dollars invested in parts inventories. A parts manager’s number one job is to see that the dealership gets a proper return on that investment. Without monitoring controls and physical inventories, all the good work of a parts department can be for naught.

The Dealership Industry Group is happy to send you our Excel-based parts inventory program. Just call us at 317-886-1624, or email Rex Collins at rcollins@hbkcpa.com.

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IRS Issues Regulations Favorable to Dealers

Date September 16, 2019
Categories

On Friday, September 13, 2019 the IRS issued proposed regulations that clarify bonus depreciation and interest expense for dealerships with floor plan financing. To the extent that overall interest expense, including floorplan interest, is below 30% of adjusted taxable income, a dealership will be eligible to take 100% bonus depreciation. Further, eligibility to take bonus depreciation is determined on an annual basis. Therefore, even if a dealership has to use the floor plan exception one year in order to deduct all of its interest expense (thereby losing the ability to take bonus depreciation in that year), it may still be eligible to take bonus depreciation in subsequent years if overall interest expense falls below 30% of adjusted taxable income in that given year. This is great news for dealers who may have thought that bonus depreciation was lost forever.

When issued, the Tax Cuts and Jobs Act of 2017 ushered in the most comprehensive and sweeping tax reform since The Tax Reform Act of 1986. Among the many changes that resulted was an interest expense limitation equal to 30% of adjusted taxable income. Another notable outcome was the increase to bonus depreciation. Prior to the 2017 act, bonus depreciation was to drop to 40% of the cost basis of the asset. The 2017 act increased the rate to 100% for assets placed in service from September 27, 2017 to December 31, 2022.

What was the impact of these changes on dealerships? Rex Collins, HBK CPAs & Consultants (HBK) Dealership Industry Group Principal, had an audience with the House Ways and Means Committee during the development of the bill proposals. As a result of his testimony, the House version of the bill included language that allowed dealerships with floor plan financing to deduct all floor plan related interest expense, even if that expense ultimately exceeded 30% of adjusted taxable income. However, dealerships would also not be able to benefit from 100% bonus expensing. Originally, the law as passed was interpreted as allowing a full deduction of floor plan interest while excluding a dealership from 100% bonus depreciation.

Subsequently, the Joint Committee on Taxation issued a Blue Book interpretation of the interaction between floor plan interest expense and bonus depreciation that was much more favorable to dealerships. Essentially, it suggested that if interest expense including floor plan interest was less than 30% of adjusted taxable income, the dealership may be eligible for bonus depreciation expensing. However, the interpretation also held that once a dealership used the floor plan exception, the dealership would not be eligible to use bonus depreciation in subsequent years.

Friday’s announcement by the IRS of the new final and proposed regulations clarifies the conflicting language in the act and the Blue Book interpretation and is welcomed good news for dealers with floor plan financing.

Contact the HBK Dealership Industry Group today to discuss planning opportunities related to bonus depreciation as well as many other items that impact your dealership.

Rex Collins is a Principal at HBK CPAs & Consultants. He directs HBK’s Dealership Industry Group, which provides tax, accounting, transactional and operational consulting exclusively to dealers. Rex can be reached by email at rcollins@hbkcpa.com, or by phone at 317-504-7900.

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Management Succession: Preparing the Transition

Date August 27, 2019
Categories

It’s going to happen. At some point you will move your dealership to another owner, be it one of your children, an employee or an outside buyer. Doing it right requires advanced planning and a multitude of considerations: the financial security of the business, transfer of wealth, taxes, future business strategies, family values, your long-term personal goals. Most of all, transitioning to a new set of leaders is critical to ensuring the ongoing success of the dealership. Managing leadership succession involves a number of difficult steps including consensus building and assembling key parties into a succession planning team.

Knowing when to start is one key to an orderly transition. The longer you wait to get your team together, the more difficult the initiative becomes and the more obstacles you will encounter in making the transition. At a minimum, an owner should start planning three to seven years in advance of selling or retiring. We recommend starting when the dealership demonstrates the ability to generate consistent profits and the current owner reaches age 50.

Some of the usual starting considerations:

  • Will your children be coming into the business and how will each be involved? That will require educating children about the functions and conditions of the business and making sure everyone involved remains open to the evolution of, or changes in, the succession plan.
  • If no children are involved, then how and when will a successor be determined?
  • Or should you simply sell the business, monetize your investment?

Starting early is also important as any succession plan should include a contingency plan addressing an untimely death or disability or other unexpected event.

Starting early gives you time to build your succession team. Your team could include family members, employees, a banker, a member of your 20 group, and outside advisors. Regardless of the makeup of the team, it should exhibit four characteristics: trust, openness, realization and interdependence. A team with those qualities will be able to overcome what are bound to be multiple hurdles and challenges in negotiating the process toward a successful successor.

A succession plan will address four phases of transition:

  1. Initiation or point of entry: when succession planning begins
  2. Selection and assessment: choosing the leaders for the next generation based on accomplishment and dedication, which could involve psychological and other testing.
  3. Education and training: ensuring the successor has the skills and knowledge to continue a profitable operation
  4. Passing the baton: transferring authority and accountability to successors

Some common issues to address:

  • How to encourage your children to think positively about a succession plan?
  • How to determine when children are mature enough to be considered as successors?
  • Who should succeed as dealer-operator or CEO?
  • When should the current dealer retire?
  • Will your manufacturer have an opinion (positive or negative) of your chosen successor?
  • What are your options in terms of a prospective leader?
  • Should you sell the business to an external buyer?
  • A personal development plan for the successor dealing with “operational” skills—technical, financial, and organizational issues—and “essential” skills—the ability to communicate with staff, customers and manufacturers.
  • A leadership development plan, including creating a vision for the future of the business, commanding respect and being professional.
  • The transition process, including the changing roles of the current and succeeding dealer, their evolving job descriptions and who’s making key decisions at what points.
  • A plan to communicate the succession to your constituents, including family, company and community
  • The organizational succession plan, including how top management will be affected, the career paths of key managers, and the future participation of family members in the business.

A successful management transition is not only key to ongoing profitability but to the legacy of the retiring owner. As famed management consultant Peter Drucker noted, “The final test of greatness in a CEO is in how he chooses a successor and whether he can step aside and let the successor run the company.”

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