At some point in the life of your growing business, you’ll hit a plateau. While the early stages are often characterised by rapid growth, hustle, and sheer willpower, the constant acquisition of new customers eventually slows down, and the business stagnates.
Furthermore, you can find yourself running into costs that relate to size. There are too many middle layers of management, or an expanding delivery fleet becomes too expensive to keep running.
The goal of this guide is to explain what you can do to break the bottleneck. We look at some of the strategies that are currently available and how they help you overcome the challenges involved in growing a business past its current stage.
The drain of legacy assets
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Many companies naturally adopt an “if it ain’t broke, don’t fix it” mentality when it comes to legacy assets. In the modern business environment, holding on to legacy assets can put you at a distinct disadvantage, usually because they’re simply not capable of supporting modern business processes.
While investing in new equipment involves capex, you’re often losing more money by using legacy items because they drain your company’s resources. When machines age, they require more repairs, and the cost of repairs increases. Delivery trucks become less reliable, and you lose ground when it comes to efficiency. Customers quickly notice, and many will switch to your competitors, who probably take a different approach to capital upgrades.
What’s worse, you often experience the opportunity cost of inefficiency. New equipment is often faster and more reliable, and it’s less likely to cause business downtime. Older equipment, on the other hand, requires much more labour to maintain, which is difficult to obtain in a highly competitive marketplace.
Why do some companies wait to upgrade legacy assets?
Given these facts, it’s worth understanding why many companies wait so long to upgrade legacy assets. Operations managers feel the pain of outdated equipment every day, as do staff and colleagues, who can often feel burnt out simply because machinery isn’t performing adequately for them.
At the same time, finance directors look at the balance sheet and see multi-million-dollar capital requests that they instinctively want to deny. If existing capital equipment is still running and doing the job, then it’s not often clear what an upgrade would bring.
This disconnect between what operations understands and what finance is prioritising is the problem in most small and medium-sized companies. A lot of firms are simply too risk-averse and unwilling to listen to the concerns and complaints of those using the actual machinery on the ground.
The trick to solving this problem is often recalculating the true net present value of a new asset. Smart tax planning and strategic financial leverage can come into play at this point, transforming what can often be a daunting expense into something that is more manageable.
For example, if finance teams look beyond the initial cost of the purchase and factor in how the tax code can subsidise the investment, it may be much cheaper on paper even today. When a company purchases a large $500,000 piece of automated machinery, traditional accounting dictates spreading the cost or depreciating it over the asset’s useful life. This tax benefit can be diluted over 5, 7, or even 10 years, but sometimes it’s possible to accelerate this timeline. For example, it’s often worth plugging the numbers into a bonus depreciation calculator to see if that can improve the situation. Often, the rules allow significant savings on such capital expenditures.
What’s interesting about bonus depreciation rules as well is that it’s sometimes possible to deduct up to 100% of the equipment’s cost from taxable income in a specific year under the regulations. This is because authorities and policymakers want companies to invest in equipment that makes them more productive and increases output. Naturally, this is a game changer for cash flow.
Rather than waiting years for a tax benefit to materialise, bonus depreciation creates the benefit immediately, providing a kind of tax shield for companies that decide to use it. The cash would have otherwise been sent to the government in the form of quarterly estimated tax payments, but this can be avoided if the bonus depreciation is sufficient to offset the liability.
Timing is critical
Financial levers are just half the battle. The right strategy requires timing.
Many growing companies wait until late in the fourth quarter to buy equipment, because this is when they have cash on hand. But of course, so many other firms are in this position. When this occurs, it can lead to a bidding war that pushes up the price of the equipment that everybody needs for their businesses. Strategic reinvestment can’t be rushed. An asset must be purchased and placed in service before the end of the tax year. These rules mean that assets must be fully operational before they qualify for tax benefits.
For example, if a company orders a new CNC machine in December but the supply chain pushes delivery until January, the upfront tax deductions shift to the following year. Unfortunately, this can lead to larger tax bills for businesses that were expecting lower payments. It disrupts the company’s cash flow and prevents it from operating the way it would like.
Strategic debt versus cash reserves
There is a significant difference between strategic debt and cash reserves. Even the best tax incentives in the world can’t always soften the blow of spending hundreds of thousands of dollars on a new device. This is why the most aggressive companies pair equipment financing with tax strategies.
Instead of paying for the asset up front, they lease it or loan it. This spreads the payment cost over the months so that piece of capital can pay for itself as the company chugs along. There’s less risk, and the asset is owned by a third-party company who perhaps has it on a lease themselves.
In an ideal scenario, tax savings generated by the purchase in year one are enough to cover the first several months of instalments for paying for the equipment, or perhaps for even the full year. This brings the effective price right now for the piece of equipment to zero, enabling a company to test it out and see whether it works in their production processes or not.