The Motley Fool's discussion boards (free trial required) have a function that allows you to mark posts for later reply. I use this repository a little differently: to store my favorite posts of all time so I won't lose them.
As I rummaged through it the other day, I came across a gem from the Caterpillar
The four functions of a turbine are: suck, squeeze, bang, and blow. In the annals of "things that sound dirty but aren't," I'd put gas turbine functions at the top of the list.
In this spirit, I offer slippage, breakage, float, and bong. These are industry and accounting terms that share a few commonalities -- each one sounds like something that you'd hear at a surfers' convention, and each one represents either 100% gross margin money for companies or, even better, money that companies get that they haven't earned.
Breakage is a dream to any company that requires some or all of its customers to prepay. It happens when someone prepays for a fixed amount and then fails to use any of the goods or services for which he has already paid. It may seem stupid, but if you think about it, it happens all the time, for reasons too numerous to count.
Here's an example. This past year, my wife, not knowing exactly which mind-numbingly boring economics book I wanted, gave me a gift certificate to Borders
That's breakage, in this case for the full amount of a liability held on Borders' books. Breakage needn't be for the full amount. Starbucks'
Most companies do not count gift certificates and store credits as earnings, keeping them as liabilities, with offsetting assets in the form of cash already collected. How sweet is it for a company to simply determine that a certain percentage of its trade liabilities will never have to be paid? That's breakage.
Slippage is a little bit different. It works in any environment where services are provided on a timed or unit basis. Telecommunications is a great example. Each month, I get an itemization from AT&T Wireless
If I talk to my mom for one minute and nine seconds, I'm billed for two minutes. The difference between 1:09 and two minutes is 51 seconds -- time that I'm billed for, but do not use. That's 51 seconds worth of slippage. And it adds up to a pretty penny for big carriers generating billings in the tens of billions of minutes each month. We're talking about time-measures services here, but it could just as easily be, say, gallons or BTUs or pounds or tons.
In some wholesale environments, slippage and breakage provide the lion's share of a company's profitability. Going back to telecommunications, let's say that I'm a wholesaler and I bill my customers on 30-second increments, meaning that if you're on the line for 31 seconds, you get billed for one minute. But my provider bills me on six-second increments, so I get billed for the same call at 36 seconds. Again, for bills that run into the millions of minutes, the differential adds up, and it's pure profit. Wholesaling companies like IDT
Float is a term most associated with banks or insurance companies. It's money paid to a company that it has not earned, and expects to pay out. If my car insurance is provided by Progressive
This money is known as "float." What do insurance companies do with float? Invest it, of course! Many people don't realize that the business of insurance is actually quite awful, with companies on average losing money on their insurance operations. Where it becomes profitable is in holding and investing float while waiting for claims to be paid out. Berkshire Hathaway
But insurers and banks aren't the only companies with float. Look back at the section on breakage. Gift certificates are a form of float, as are store cash cards. ADP
Unlike the other terms I've described, "bong" actually refers to a service that can be counted as revenue the moment it is rendered, but, like the others, bong is tremendously profitable. Bong is exclusively a telecommunications term, and it refers to the connect fee for calls made with calling cards or with dial-around or other casual calling plans. Sprint
Bong is named for the sound a pay phone makes when your coin drops. It is an access fee, a charge that you pay regardless of the length of a call. For example, your rate is 4.5 cents per minute, with a $1 connection charge or "bong." Think of those Terry Bradshaw/ALF/Mike Piazza/et al. ads for 10-10-220 (also MCI), where the gimmick is the value of a dollar. The tag line goes "99¢ for all calls up to 20 minutes and 7¢ per minute after that." What happens if you make a call using 10-10-220 and talk for only one minute? You still pay the bong of 99 cents. The moment you connect, you're charged that amount, and it doesn't matter if you talk a second or if you talk for 19 minutes and 59 seconds -- you still pay the bong.
Obviously, telecom companies love this type of arrangement since it means that the amount of slippage will necessarily be much higher. And for people who know they're going to make only a few calls, each quite long in duration, it's not such a bad deal, either. But get just a few answering machines and you'll find that you've paid more than 10 times the going rate for long distance. Ouch!
So there you have it -- breakage, slippage, float, and bong. The next time you're with someone playing Mr. smarty-pants-investor-guy, pull some of those terms out. And feel free to use them in mixed company.
Bill Mann, TMFOtter on the Fool Discussion Boards
Bill Mann once knew a kid named Bong. He thinks Bong's parents were telecom junkies, or something. Bill owns shares of Berkshire Hathaway. Please view his profile for a complete listing of his holdings. The Motley Fool is investors writing for other investors.