Last week we talked about capital assets, and this week I want to take that discussion a little bit further, and connect the ideas of capital assets and strategy. So in this video, I am going to be asking you the question, “Do you have a capital asset strategy?” Watch now!
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Let me start with one of the main problems with accounting. It is so easy to get stuck in the details and miss the big picture of what is going on. I can say this, because I have been guilty of this too. Especially as someone who likes making spreadsheets, and I LOVE making spreadsheets. It is so easy to get caught up in the little details on how you are calculating things out. This is especially a big problem with capital assets. Capital assets is all spreadsheets where you are calculating depreciation and building a capital assets register. But I want to take a moment, to take a step back and talk about the big picture.
Capital assets represent a large cash investment into a business. Whether you are buying a building, equipment, or vehicles, the owners of the business have decided that is where they are going to put their money. The important point to realize is that capital assets are a physical manifestation of strategy.
Let us walk through the thought process that business owner’s go through.
- Identify available capital. An investor will have money on hand, and will want to put that money to work to make more money.
- Identify a business opportunity. The investor will survey the business landscape, and identify the opportunities with the highest Return on Investment.
- Evaluate sustainable competitive advantage. An investment in capital assets could be a 30 year investment, so you want to evaluate if competitive advantage will continue for many years.
- Make investment. Identify the right capital assets to buy.
- Capture return each year. Identify how you will generate profit each year.
Let us look at an example. Imagine you build a bigger warehouse. This warehouse allows you to do twice as many orders, with twice the revenue, and more profit. The warehouse is your capital asset, but it also represents the owner’s investment in the business. The warehouse enables future cash flows in future years.
This investment is the broad strokes of your business strategic plan. If this business has a strong strategic plan, maybe it makes sense to build five new warehouses, and continue to scale the business. This is very strategic, because if another business now wants to compete with you, they then also have to build five warehouses. So capital assets then become a source of competitive advantage.
From a financial perspective, capital assets and strategy are closely linked. And remember, for most businesses, most of the money on the balance sheet is sitting in capital assets. So I will ask you the question, “Do you have a capital asset strategy?” You can actually take the five bullet points I mentioned earlier and write out a simple document that outlines your strategic goals.
- Identify available capital. Where is the money coming from and do you have to pay it back?
- Identify a business opportunity. What is the opportunity?
- Evaluate sustainable competitive advantage. Is there a competitive advantage and will it last?
- Make investment. What is the exact capital asset you are going to buy?
- Capture return each year. How are you going to make profit back each year?
All you need is a couple page plan that explains what those capital assets mean for your business. What you are trying to avoid is wasting money on expensive purchases that are not aligned with your company’s strategic plan. You want a focused approach on the areas in your business that make the most money. So every major purchase you make should be thought through on how it fits in with your strategic plan. From a big picture financial perspective, a capital asset purchase represents your investment that is going to generate your return.
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Neither Zach De Gregorio or Wolves and Finance Inc. shall be liable for any damages related to information in this video. It is recommended you contact a CPA in your area for business advice.