As a small-to-medium-sized business owner who is in the market for new equipment, you will have carefully considered the type and specification of the assets you require and from whom those assets will be purchased (see further detail in article one of this three-part series). The next critical consideration is how the purchase should be financed.
What type of financing arrangement is best?
It can be somewhat overwhelming when considering financing options for asset acquisition, as there are so many alternatives, each with their own set of financial and operational implications. Will you pay cash for the equipment? Lease it for a fixed term, or make use of an overdraft facility? Taking stock of the business drivers for the acquisition is a good starting point in making the decision, and will give you insights into how financing should be arranged, especially on the basis of whether or not you need to own the assets, or whether you simply need to use them for a defined period of time.
‘While conventional wisdom encourages paying cash for the acquisition of an asset, mainly to avoid the accumulation of debts, this is only one of several options which make business sense,’ says Kuben Rayan, CEO of RentWorks. ‘Most assets depreciate over time and there is a solid argument to be made in the prudence of conserving cash for working capital, or for the company’s core business activities, rather than investing in a depreciating asset. As a business owner, you need to consider the tenure required for the asset, looking at its useful life in relation to the business’s planned need. There is also the question of the obligations at the end of the useful life of the asset, and it is these types of considerations which may sway you in favour of a fixed-term lease agreement in favour of outright purchase.’
The small print
‘If you do decide that you don’t need to purchase your asset outright, you need to look carefully at the small print of the terms and conditions offered on any rental and financing arrangement,’ advises Rayan. ‘Consider the transparency and fairness of the agreement and whether the deal structure is adequately tailored to align to your particular business’s operational drivers. Carefully look at whether the terms are cost-effective. Every detail of the agreement is important. Even the smallest considerations, such as whether or not a deposit is required, can make a difference to cash-flow.’
Impact on the numbers
‘When you’re happy that your proposed asset-acquisition and financing arrangement is right for your business and that the contract suits your needs, take time to think about the accounting implications of asset finance. There will be impacts on your balance sheet and income statement, and there will be impacts on your key ratios – such as Return on Asset (ROA), Return on Equity (ROE), and Debt/Equity Ratio. You need to ensure that these impacts have an overall positive influence on the business
‘Finally, there’s the consideration of insurance,’ says Rayan. ‘This obviously applies to situations both where assets are financed and when paid for in cash. The last thing you need as a business owner is to bear the unanticipated cost of repair or replacement of an asset. While it may be tempting to forgo the added expense of insurance, a significant unbudgeted cash outlay is never worth it in the long run. In addition, if an asset is lost or damaged, there are may be associated risks, such as downtime in production, dissatisfied clients and an ultimate loss in revenue, if the asset cannot be immediately replaced.’