Is a purchase worth it? The Below Your Means Value Formula can help you decide.

Is something worth it, do the math.

Part of the lifestyle of living below your means involves thinking about your finances a little differently.  A key example of this is concept, that I often look at my personal finances like I a business would look at their finances.  That way, we can use common business techniques to figure out where to spend money, where to spend less, and where to invest.  This actually can apply to lots of everyday things and once you get used to thinking this way, it becomes second nature.

One great concept to learn and use is that of amortization.  Wikipedia defines it as:

Amortization (or amortisation) is the process of decreasing, or accounting for, an amount over a period.”

Put simply, you can use amortization to help you decide if something is “worth it” or not by looking at the cost and value over time.  This little bit of frugal math can be put into a formula that looks something like this:

A simple forumula to help out figure out if something is worth it or not

Using the formula is pretty simple.  Let me give you a few examples of this in action.  In each example, we will take the total cost per period of time and divide it by the number of times it is used / enjoyed or the “units of use”.   The result is the “total cost per unit of enjoyment or use”.  With that you can make a judgement call as to whether or not it is worth it to you.

Calculating the total cost of a purchase is an important skill.  You have to factor in all the costs of repairs, cleaning, insurance, licensing, etc to full understand what you will be out-of-pocket over the period of time you plan on using the item in question.  In our formula, c is the total cost over time.

Understanding the unit of use also requires a bit of thought.  You need to factor in how much time you’ll get value out of a purchase.  If it’s something that you know you’ll use almost every day, you can simply use the expected lifetime of the purchase for u.  If it is something that you will use for a fixed time, then hours may be a better way to compare.  We’ll explore this in the examples as well.

The value of v is subjective by nature.  If you are well-centered and know what is important to you, then you’ll be able to make the value determination successfully once you know the cost per use.

Here are a few examples:

  • Monthly gym membership at a fancy gym: $85 per month (c in our equation above)
    • If you go to the gym once a week, you use the gym roughly 4 times a month (u above)
    • $85 / 4 = $21.25, so the cost per visit is $21.25
    • Compare this to using day passes as opposed to a monthly membership.  If you only use the gym 4 times a month, it is probably better to buy 4 day passes for $15, as the cost per visit drops from $21.25 to $15.00.
  • Nice new propane BBQ Grill: $800 (excluding fuel)
    • If you use it 50 times a year (about once per week) and you expect it to last 5 years, that is 250 uses
    • $800 / 250 = $3.20, so the cost per use is $3.20
    • Relative to eating out, an extra $3.20 a meal isn’t that bad of a deal to get fresh grilled food.
    • If you use it 4 times per year in the summer, you are looking at a cost per use of $40.  ($800 for the grill / (4 uses x 5 years) = $800 / 20 lifetime uses = $40 per use).  At that rate, it may be better to go out.
  • Buying, storing, licensing, insure, maintaining a decent 21″ power boat over 5 years (excluding fuel): $75,000
    • If you use the boat 10 times a year and it is used for 5 years, that is 50 uses.
    • $75,000 / 50 = $1,500, so the cost per use is $1500
    • The going rate to rent a similar boat is about $300 a day,  so if you rented the boat 50 times it would cost you $15,000 over 5 years.
  • Buying, licensing, insure, maintaining a new sedan over 5 years (excluding fuel) : $50,000
    • If you drive the car 20,000 miles a year for 5 years, that is 100,000 miles driven.
    • $50,000 / 100,000 = $0.50
    • The cost per mile is $0.50, or put another way $10,000 a year.

Using this method you can see how changing variables, such as the initial price you pay for something, the number of times you use it and how long you keep it for use can drastically change the “cost per unit of enjoyment or use”.

For example, if you keep your car mentioned above for 7 years instead of 5 years and assume an extra $10,000 in insurance, repairs, etc.  the equation changes to:

  • $60,000 / 140,000 = $0.43 a mile or a 16% reduction in your cost per mile.

The same is true for uses or number of times enjoyed.  Taking the gym membership example above.  If you go to the gym 3 times a week, or approximately 12 times a month.  The cost per time drops to $7.08 or less than 1/2 the cost of a day pass, definitely a better deal for something you will use often.

Especially for entertainment purposes, we look at hours of use to determine cost.  For example:

  • Taking the kids to the movies vs. buying a DVD vs. buying a video game 
    • Movie at the Theater
      • Matinee Tickets for 1 adult and 2 kids: $25
      • Concessions: $10
      • Total Cost (excluding gas to/from theater): $35
      • Hours of Use (2 kids x 2 hours): 4 hours
      • Cost per Kid-Hour:  $8.75
    • DVD Purchase
      • Blu-Ray/DVD Combo Pack: $25
      • Home Snacks: $0.50
      • Total Cost: $25.50
      • Hours of Use: 44
        • Initial (2 kids x 2 hours): 4 kid-hours
        • 10 Repeat Viewings (4 kid-hours x 10): 40 hours
      • Cost per Kid-Hour:  $0.64
    • Video Game
      • Discount video game:  $35
      • Hours of Use (2 kids x 40 hours to complete / get bored with game): 80 hours
      • Cost per Kid-Hour:  $0.44

If we adjust the price paid for something you can see how that affects the equation.  Take the gym example.  Instead of going to a fancy club you evaluate going to a basic gym that still meets your needs.  The equation might look something like this:

  • Monthly Gym Membership at a basic gym: $30
    • If you go to the gym three times a week, you use the gym roughly 12 times a month.
    • $30 / 12 = $2.50
    • The cost per visit is $2.50 (vs. the fancy gym, which was $7.08/month for the same amount of use).

You can choose to make these formulas as comprehensive as you want, in order to get a more accurate per-use cost and make a more educated value determination.  In the entertainment example above, we could have assumed that 1/2 of the DVD re-watches would have included additional at home snacks, and added $2.50 (0.50 per viewing of snacks * 5 viewings) to the total cost.  Or estimated the cost of gas to get the gang to and from the movie.

Amortization it is a valuable tool to help you understand the total cost and value you are getting out of a potential purchase.  Put it in your toolkit to make reasonable and value-minded decisions, and continue enjoying living Below Your Means.

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