July 2, 2018 Budgeting for Industry 4.0

New technologies are revolutionizing the manufacturing industry, but can all manufacturers afford the transformation?

By: Rick Schreiber

A recent Economist Intelligence Unit survey found that 63 percent of U.S. manufacturers are in a state of transformation, with innovation leaders focused on the potential of IoT, big data, and cloud and mobile technology. Worldwide spending on the Internet of Things (IoT) is expected to hit $772.5 billion this year, and manufacturers are the biggest spenders. By 2019, the number of operational industrial robots installed in factories will grow to 2.6 million from 1.6 million in 2015. While the need for change is apparent, there are many questions about how to pay for it.

U.S. manufacturers are on a hot streak, expected to close 2018 with rising employment levels, a 6.6 percent net increase in revenues and a 10.1 increase in capital expenditures. These current market conditions, paired with recent tax changes, make it an ideal time for planning ahead. The $1.5 trillion tax reform legislation known as the “Tax Cuts and Jobs Act” (TCJA) is triggering changes that will potentially free more capital for manufacturers.

Every company must consider its own fiscal situation to determine a thoughtful, long-term budgeting strategy for Industry 4.0. Three key questions to raise include:

How much additional capital will we gain from tax changes?

While the implications of TCJA are still being sorted out, the new law is largely seen as positive for the industry and a potential source of additional capital for funding Industry 4.0-related investments. A recent National Association of Manufacturers (NAM) survey found that 86 percent of its members, many of which are small and mid-sized companies, plan to increase investments thanks to tax reform.

Aside from the lower corporate tax rate, one of the biggest benefits is the change to bonus deprecation, which previously only applied to new equipment purchases. The new law expands the definition of “qualifying property” and allows manufacturers to expense 100 percent of the full cost of property placed into service after Sept. 27, 2017 and before Jan. 1, 2023. The change is expected to boost capital spending on new tech improvements, equipment, plant expansions and other assets.

Can we take advantage of Research & Development incentives?

Federal R&D tax credits are designed to serve as an impetus for innovation, giving companies more leeway to invest in new ideas and technology. Manufacturers that are designing, developing or implementing smart devices or other types of machine intelligence into products, plants or equipment can potentially qualify for the credit.

The new tax law boosts the net value of the R&D tax credit by 22 percent, from 65 percent to 79 percent of incremental qualified spending. With the repeal of the corporate Alternative Minimum Tax (AMT) under TCJA, the R&D credit is now available to manufacturers who used to be subject to AMT and couldn’t use research credits to offset their tax liability.

The one drawback: R&D-related costs are written off over a longer period of time under the new tax law. Companies can no longer choose whether to take an immediate deduction or to capitalize and amortize the costs over five years. Capitalization and amortization will now be mandatory. With these changes in mind, tax implications needs to be carefully integrated into the R&D strategy.

Does it make more sense to build it or buy it?

Of course, innovation doesn’t always come from within; acquisitions are a key part of some Industry 4.0 transformation strategies. U.S. heavy industrial manufacturers and automotive companies have a growing appetite for computer software firms, with 36 related acquisitions in 2017, up from 23 the year prior. Even artificial intelligence (AI) visionaries like Andrew Ng are looking to get in on the action; he built AI units for Google and now has his sights set on transforming manufacturing through his new startup called Landing.ai.

For those eyeing possible acquisitions, the new tax law offers the benefit of immediately expensing certain capital expenditures, including acquisitions of used property, for purchases made after Sept. 27, 2017. The allowable expensing will gradually be phased out after 2022, but in the interim, it will free up additional capital for other uses.

Budget for change

Regardless of the strategy, it’s clear that now is a critical time for investing in Industry 4.0 technologies. The sector’s future will be rooted heavily in tech-centric initiatives that can help companies achieve greater efficiencies and improve connectivity. Identifying new sources of capital, and prioritizing investments in transformative long-term initiatives, will be pivotal to success.

About the Author:
Rick is the Assurance & Advisory Managing Partner for BDO’s Memphis Office and has over 25 years of public accounting experience. His clients have included both domestic and international public and private entities, and he has significant experience with initial public offerings (IPOs), secondary debt offerings, and mergers and acquisitions.

Rick is also the National Leader of BDO’s Manufacturing & Distribution Practice, which services clients in a range of subsectors, including fabricated metals, food processing, machinery, plastics, rubber and transportation equipment. Rick is also the National co-Leader of BDO’s Industry 4.0 initiative.

Contact:
rschreiber@bdo.com

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