For many private companies and their advisors, capital allocation is a mysterious term that usually boils down to what decisions need to be made at year-end to pay less taxes. Taxes typically represent the majority of the discussion for many accounting professionals when they sit down with their clients.
We have a much different view of the capital allocation discussion. In fact, we think it is a significant and critical broad-based dialogue that a private company needs to have on a regular basis. This is for one principal reason – capital is scarce for private companies and they do not have ready access to capital. This is even more important when dealing with a private company that is in some stage of ownership transition, which could involve a significant capital requirement.
In addressing your company’s capital allocation, we suggest thinking about the answers to four important questions:
1. What is your company’s strategy and what capital requirements are required to execute this strategy? This could include acquisitions, reduction of debt, capital equipment, facilities expansion, etc.
2. What is your company’s ownership transition plan and what are the potential capital needs to make it happen?
3. What is your owner’s personal financial picture and is there a liquidity shortfall that needs to be remedied?
4. Do you have a tax strategy that is efficient yet considerate of the other important elements of the company’s capital allocation needs as noted above?
One of the most significant—and often unique—challenges facing a private company is limited access to capital. Therefore, decisions regarding the allocation of capital are best made with a cohesive view of all the company’s needs and options.
What has been your company's experience with making capital allocation decisions? Has it just been about the taxes or has it been a broader discussion? Share in the comments.