Acquisition cost is a business phrase that describes how much money it takes to acquire equipment or property after accounting for income and profits before taxes. This word also refers to the expense of taking over another company or purchasing an existing unit from another organization. In this article, we explore what acquisition cost is, list common business acquisitions, define the principles used when finding the acquisition costs, and examine the relevant formula.
What is Acquisition Cost?-Definition
A total cost that a corporation acknowledges on its books for property or equipment after adjusting for discounts, incentives, closing fees, and other essential expenditures, but before sales taxes, is referred to as an acquisition cost. It is not the same as the invoice value of the products or services.
Understanding Acquisition Cost
An acquisition cost, also known as the cost of acquisition, is the total cost recognized on a company’s books for property or equipment after adjusting for discounts, incentives, closing expenses, and other essential expenditures, but before sales taxes. An acquisition cost may also include the cost of taking over another company or purchasing an existing business unit from another company. Furthermore, an acquisition cost might reflect the costs incurred by a company in relation to the efforts required to acquire a new customer.
Acquisition costs show the genuine amount paid for fixed assets before sales tax, expenses associated with the acquisition of a new client, or the acquisition of other firms. Acquisition expenses are useful because they reflect a more accurate cost on a company’s financial statements than other measurements. For example, the acquisition cost of property, plant, and equipment (PP&E) accounts for any discounts or additional costs that the company may incur and is sometimes referred to as the asset’s original book value.
Importance of Acquisition Cost
Acquisition cost is a critical business statistic that many companies and investors consider. In reality, many businesses fail because they do not adequately comprehend their acquisition costs.
#1. Increasing the return on investment
Understanding the cost of acquiring new consumers is critical for calculating marketing ROI.
#2. Increasing profitability and margins
Understanding its acquisition cost allows a company to completely examine the value per client and increase its profit margins.
Typical business acquisitions
A company can make numerous types of acquisitions. The following are examples of common business acquisitions:
#1. Horizontal acquisition
When a company acquires another company in the same industry or sector that the purchasing company deems a rival. This type of transaction usually benefits both sides.
#2. Vertical acquisition
This is when a firm acquires a distributor or supplier of products that are directly related to what the company sells to consumers. This type of acquisition often gives the purchasing corporation greater control over the supply chain.
#3. Conglomerate acquisition
A conglomerate acquisition occurs when one company buys another in a completely unrelated industry or field. Companies do this to diversify, and it allows the purchasing company to enter new markets.
#4. Equipment or machinery acquisition
This is when a corporation buys new or secondhand equipment or machinery for use in the manufacturing process. For example, a corporation may buy a steel press to make metal sheets.
#5. Land
When a firm buys land or a structure, this is referred to as land acquisition. For example, a firm may buy property in order to increase its production area.
Other types of acquisitions might be made by a firm based on its needs and industry.
Acquisition Cost Formula
The most widely used acquisition cost formula among accountants and corporations is as follows:
Acquisition cost = (Expenses related to the acquisition + cost of acquisition) – (taxes + depreciation + amortization + impairment costs)
Acquisition Cost Calculation Example
Let’s look at some acquisition cost examples to help you understand it better.
Example #1
The cost of acquisition varies based on how much money is spent on client acquisition. Assume that a corporation launches a new washing powder product. The management decided to host a lecture and invite attendees. The marketing and advertising divisions’ goal here is to bring in new clients to the conference.
The washing powder will be demonstrated at the conference. Furthermore, the firm is attempting to launch its new product using a seminar platform. The total cost of sales and marketing is $18,000. Two hundred people attended the session, with 90 of those invited signing up for the product and deciding to purchase it.
Let us apply the acquisition cost formula to the provided data:
CAC = Sales and marketing cost / Number of new customers acquired
CAC = 18000 / 90 = $200
Thus, the company accrued a cost of $200 for acquiring one customer.
Example #2
The purchase cost of property and land includes an indexed acquisition cost as well as other considerations. The total cost is determined by the cost inflation index for the transfer and sale years.
Assume Bernard sold his property in 2020 for $90000. Bernard originally paid $72000 for the property in 2015. If Bernard pays 20% in taxes, his CII in 2015 is 180, and his CII in 2020 is 270.
Indexed acquisition cost = 90000 x 270 / 18 = $135,000
The CII is always available on the income tax department’s official website.
Acquisition Cost Principles
Companies can utilize acquisition cost principles to account for fixed assets properly. The most common principles linked with this expense are as follows:
- The acquisition cost includes any additional expenses incurred in obtaining title and legal possession of the asset. For example, if a corporation pays commissions during the acquisition process, the commissions are included in the acquisition cost.
- A fixed asset’s acquisition cost includes any additional fees incurred in transporting the asset to its proper location. For example, if a company pays a transportation company to convey an item, this is considered part of the acquisition cost.
- Any costs incurred in determining whether equipment or machinery is fully operational are included in the total acquisition cost.
- It covers any costs incurred while installing or maintaining equipment or machinery acquired as part of the machinery’s purchase.
- To calculate the acquisition cost, the corporation deducts fake charges from the purchase price in accordance with the norms of the conservative accounting convention. Amortization, depreciation, discounts, and impairment costs are examples of artificial expenses.
- Sales tax and any other type of tax paid to acquire a fixed asset are not included in the acquisition cost.
- Other considerations include the amount of money required to finance the purchase of the fixed asset as part of the acquisition cost.
Customer Retention vs Acquisition Cost
Customer retention techniques are those that ensure recurring business. Businesses, for example, use these tactics to ensure that first-time clients do not purchase a substitute the next time. The cost, on the other hand, relates to the money spent on gaining new customers—marketing, advertising, and PR.
Customers are already familiar with the product, hence customer retention budgets are cheap. Customer acquisition, on the other hand, necessitates a large investment. As a result, companies launch large advertising campaigns to entice early adopters.
Customer retention comes after customer acquisition when a firm is new. However, for established businesses, both tactics work in tandem. consumer retention requires little research and analysis because businesses already have consumer data. Customer acquisition, on the other hand, necessitates substantial study.
How Investors Use Cost of Acquisition
Investors that examine financial accounts may be particularly interested in a company’s acquisition cost, especially if it is abnormally high or low.
Cable businesses, telecommunications firms, and subscription streaming services, for example, all have substantial acquisition costs. To recruit new customers, they must spend a lot of money on marketing and promotions. This is especially true in competitive markets where consumers have a variety of options.
Contract buyouts from competing cable companies and family plan offer for wireless consumers are two examples of promotions used by companies in this market to acquire new customers. These are high-priced examples of acquisition costs.
What Are Examples of Cost of Acquisition?
Acquisition costs comprise all expenses made by a company when purchasing assets such as real estate or a rival. Another example is the total cost of gaining new consumers, which may include everything from sales and marketing personnel salary and benefits to sponsored social media ads and swag.
How Is Cost of Acquisition Used?
The acquisition cost reflects the total cost of acquiring assets such as real estate or acquiring a competitor. Legal fees and closing costs are examples of such expenses. The cost of acquisition also assists a company in determining the total cost of obtaining new customers, which can then be compared to the amount of revenue generated by each customer.
What Is Customer Acquisition Cost (CAC)?
The expense of acquiring a new customer is referred to as the customer acquisition cost (CAC). Knowing a company’s client acquisition cost allows it to plan for the future and spend cash more effectively. When evaluating whether to invest in a firm, investors may consider customer acquisition costs.
What are Mergers and Acquisitions?
Mergers and acquisitions (M&A) are popular types of acquisitions in which a corporation participates to obtain acquisitions. This occurs when one firm absorbs another in order to acquire that company and all of its assets. An M&A is paid for with securities, cash, or a mix of the two. A mixed offering occurs when the corporation makes the payment in the form of both securities and cash.
What Costs Are Involved in an Acquisition?
Transaction costs in an asset acquisition are the costs of purchasing the assets and are thus initially capitalized and then depreciated. As a result, asset acquisitions will generate a higher net income during the acquisition period but a lower net income during the life of the acquired assets owing to depreciation.
Are Acquisition Costs Capitalized or Expensed?
Transaction costs are expensed on or before the purchase date in the case of a business acquisition. Transaction costs in an asset acquisition are the costs of purchasing the assets and are thus initially capitalized and then depreciated.
How Do You Determine Cost of Acquisition?
Simply divide the overall cost of marketing during a certain time period by the total number of new consumers in that same time period to get the cost per acquisition.
How Are Acquisition Costs Accounted For?
The overall expense made by a business in acquiring a new client or purchasing an asset is referred to as the cost of acquisition. An accountant will list a company’s cost of purchase as the sum of all discounts and closing or transaction fees removed.
What Does Acquisition Cost Not Include?
Sales tax and any other type of tax paid to acquire a fixed asset are not included in the acquisition cost. Other considerations include the amount of money required to finance the purchase of the fixed asset as part of the acquisition cost.
What’s the Difference between Cost and Acquisition Cost?
An acquisition cost, also known as the cost of acquisition, is the total cost recognized on a company’s books for property or equipment after adjusting for discounts, incentives, closing expenses, and other essential expenditures, but before sales taxes. The cost of a product is its price or value.
In conclusion
The cost of acquisition in accounting reflects the expenditures associated with purchasing an asset, such as equipment or a rival. The cost of acquisition is used in sales and marketing to calculate all costs associated with obtaining new clients. In either case, knowing the cost of acquisition assists businesses in planning for the future and allocating funds.
Related Articles
- CUSTOMER ACQUISITION: Meaning, Costs, Formula & Calculation
- BUSINESS STARTUP COSTS: What’s Included & How to Calculate It
- FIXED VS VARIABLE COSTS: What’s the Difference?
- CUSTOMER ACQUISITION COST: Definition, Formula, Calculations & Difference
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