Evaluating Capital Expenditure Opportunities: A Handbook for Emerging Businesses
Bringing American Manufacturing Back:
Getting Down to Business: A No-Bullshit Guide for Startups
American manufacturing is once again a hot topic, but let's face it, it's easier said than done. The problem lies in the need for physical assets, requiring hefty capital investments before you see a dime in return. This is a risk that businesses, big and small, find hard to take on, especially early-stage companies. Here's a straightforward guide to help you make smart decisions when it comes to capital expenditure (capex).
Now, the amount you can spend on capex depends on financing. To put it simply, you need to consider how much you can raise from investors, and how much of that you allocate towards capex compared to other expenses such as salaries. This is a short-term strategy. The amount you should spend, on the other hand, depends on creating a competitive product in the marketplace. This is a long-term play. Your capex spending will affect product quality, revenue, and pricing for years to come.
Let's start with how much you can spend on capex. It's limited by the amount of money you can raise. Some sectors, like Utilities and Iron and Steel Mining, attract more funding, giving them more flexibility to invest in capex. However, even the steel sector with a median Series B deal size of $877M may not be enough to cover the costs of a new steel mill, estimated at $3B.
What about debt? Venture debt and equipment financing can be effective strategies to bridge the gap, but they're not sufficient to fund a new facility, especially for early-stage companies building a First-Of-A-Kind (FOAK) facility.
So, what does this mean for early-stage companies? Focus on purchasing the essential assets that cannot be found elsewhere. For sectors like Household Goods and Food & Beverage, there are very few exceptions to this rule. For others, there are exceptions, especially for Iron and Steel Milling, but you'll need to make a compelling case.
Early-stage companies might be able to spend up to $5M on capex, increasing as they progress. This should be enough to add parts of a manufacturing line or even an entire line, allowing them to produce their product. However, the capex spending must be proportional to production, or else it could excessively burden production.
If you're absolutely determined to build your own facility, fundraising should be your top priority, especially if you're building a FOAK facility. You may consider leveraging public funding systems to unlock access to government grants and loans, as well as project financing. But be aware that this is more the exception than the rule.
Cost of Goods Sold: Keeping it Real
The story doesn't end here. How much you can raise is not just about the total you can spend. The key is COGS, or Cost of Goods Sold. To compete in an open marketplace, you need to sell products at competitive prices. To achieve this, your COGS should be similar to comparable products.
The COGS for any product contains a contribution from the capex spent on assets required to manufacture it. This contribution takes the form of capital depreciation attributed to the COGS. Therefore, you can assess the industry standard for capital depreciation and use that as a guideline for your capital spending.
To determine an appropriate contribution of capital depreciation to COGS, analyze competitors that sell similar products and develop a capex budget that ensures you do not exceed it. Overspending on capex will hurt you in the short term and in the long term, impairing your ability to compete in the marketplace. It's enough to sink your company.
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Enrichment data:
For early-stage manufacturing companies, recommended CapEx budgets typically range between $1 million to $5 million based on industry-specific guidelines, depending on production scale and funding stages. While the provided sources do not explicitly link CapEx budgets to depreciation's contribution to COGS, here's how the two interact:
- CapEx Allocation: Early-stage manufacturers often allocate 60-80% of initial CapEx to equipment, which directly influences long-term depreciation schedules. - Depreciation Impact: Equipment depreciation is typically calculated using methods like straight-line (e.g., 5–10 years) or accelerated, directly affecting COGS. Industry averages often show depreciation contributing 5-15% of COGS for asset-heavy manufacturing models, though this varies by sector.
- Budget Optimization: - Leasing vs. Purchasing: Leasing reduces upfront CapEx and shifts depreciation responsibility to lessors. - Maintenance Contracts: Allocating 3-5% of equipment costs annually to maintenance preserves asset value and stabilizes depreciation rates.
For precise COGS-depreciation alignment, companies should model depreciation schedules based on their specific CapEx outlays and asset lifespans, as generalized industry averages may not capture niche manufacturing requirements. The $1M–$5M range provides flexibility for pilot lines or partial production setups.
- In the process of making smart decisions about capital expenditure (capex), early-stage companies should consider both financing and creating a competitive product in the marketplace.
- The amount of money raised is a significant factor limiting the amount a company can spend on capex, with some sectors like Utilities and Iron and Steel Mining receiving more funding.
- The depreciation of assets purchased through capex will contribute to the Cost of Goods Sold (COGS), which should be comparable to similar products for competitive pricing.
- To minimize capex spending and avoid excess burden on production, early-stage companies should focus on purchasing essential assets that cannot be found elsewhere.
- If a company insists on building its own facility, securing funding should be a top priority, particularly for First-Of-A-Kind (FOAK) facilities.
- Enriching personal-finance knowledge in education-and-self-development and technology sectors can help individuals make informed decisions when investing in businesses, understanding the stages and implications of capex, depreciation, and COGS.
