By Jacobine Nangolo
When Individuals apply for funding, they often start with the big picture: “If we receive this loan, we will grow revenue from N$ 2 million to N$ 5 million.”
The presentation may be impressive, and the projections may look attractive. However, once the numbers are broken down, the underlying economics may not always make sense. This is where the analysis needs to start:
What actually happens to the money once it is put into the business? This is where unit economics becomes important.
Take a chicken farming business. Before looking at the size of the farm or its projected revenue, we first need to understand what the business is producing. Is it farming broilers for meat or layers for eggs?
That distinction immediately changes the economics of the business. The type of
chicken determines the production cycle, feed requirements, mortality assumptions, veterinary costs, infrastructure requirements and, ultimately, the selling price.
Then we go one level deeper:
What does it cost to produce one chicken?
If a broiler costs N$70 to produce and sells for N$90, the business generates N$20 per chicken before fixed costs. This allows us to ask more meaningful credit questions:
How many chickens must be sold to cover the business’s overheads? What happens if feed prices increase?
What happens if the selling price declines?
How much working capital is required between purchasing chicks and receiving payment?
This is the value of unit economics. It takes us beyond the glamour of the financial projection and brings us closer to the economic reality of the business.
From a credit perspective, understanding the cost and income generated from a single unit can sometimes tell us more than a five-year revenue projection.
From a credit standpoint, we then take the analysis a step further. Once we understand the cost of producing one unit and the income it generates, we can determine the contribution generated by each unit and establish the business’s break-even point.
We can then apply the same economics to the actual quantity the business currently produces and compare this with the quantity it plans to produce after the loan.
This allows us to assess whether the proposed expansion will genuinely improve profitability and cash flow or simply make the business bigger without improving its underlying economics.
Ultimately, unit economics helps us answer a fundamental credit question:
Does putting more money into the business create more value, or does it simply create more activity?
*Jacobine Nangolo is a Credit Analyst with an interest in research and understanding the factors that influence business decisions.
