To Lease or to Buy?
March 2007 Issue
To make the best decision for your business regarding operations space, carefully consider both financial and strategic aspects. Weigh advantages and disadvantages, and then measure the resulting implications. Remember that no one element of the decision is more important than others as presented here. All variables must be weighed on each business' unique scale and individual circumstances.
In most businesses, cash is king. If a business does not have adequate cash flow to pay for operating the business on a monthly, weekly, and daily basis, the business will not exist for long. Therefore, your decision must consider cash flow. Here are aspects to consider:
Buying commercial property usually requires much more cash up front than leasing. Consider the down payment added to the build-out costs (costs to get the space usable for your business) added to the transition costs of the business, including both actual moving costs and promotional costs associated with moving your business, and the cash requirement will likely be substantial. Although you also may have build-out costs and transition costs in addition to a lease deposit under a lease scenario, you can negotiate build costs into the lease-thus minimizing your up-front cash needs.
Cash is working capital. You may go through substantial analysis evaluating the cash necessary in comparative space arrangements for a lease versus buy and decide that your business does have the cash to purchase commercial property. However, will this cash outlay use all of your available working capital? Could you fund a possible downturn in your business revenue? Could you afford to drive your business by investing in technology, generating a fresh marketing campaign, or hiring additional staff? Having cash reserves, or working capital, is key to maintaining a healthy company.
Tax benefits. Ensuring that you achieve the best tax result when making business decisions is logical, but cash requirements and strategic purpose should drive your business decision. Never make an important business decision based solely on tax benefits. Pursue local economic development organizations and governmental entities that are interested in bringing businesses to your community.
It is often said that the only consideration in buying property is location, location, location. Clearly, knowing your market and selecting the "right" location is highly important to your O&P practice. However, here are some other strategies to consider:
Your company growth plan. Outline a five-to-ten-year business plan that (1) addresses your goals for patient volume and how you plan to handle operations for this volume, and (2) addresses the outlook for the O&P industry both in your specific market and nationally. Evaluate what competitors are doing and their locations. Are there likely to be new competitors?
The economic and industry outlook. Buying space that offers 2,000 square feet of operations space when you intend to pursue aggressive growth may cause you to outgrow your building before your financial investment can pay off through a profitable sale. Another move could be damaging as you try to redirect the flow of patients from referral sources. Maybe it's a buyers market and you can get the property inexpensively. However, outgrowing your property quickly may result in a need for new space, plus difficulty in selling your current space.
The real estate market. Find out what experts say may happen in the future. Don't make a commitment to a property that has a term that doesn't fit your business plan. Leasing usually offers more flexibility in adapting to either a change in strategic direction or a change in economic conditions. Recognizing how much flexibility your business may need will be critical in evaluating the lease-versus-buy scenario. Also note that you could blend long-term stability with flexibility by being creative with your lease terms, securing a fixed term in the two-three-year range, and requesting multiple-year options.
Weighing the financial and strategic considerations of lease-versus-buy requires time and input from experienced advisors. Rushing can lead to a poor decision.
Ask advice from colleagues and other business owners who have gone through the process of leasing and/or buying commercial property and get their insight. Also, secure adequate legal advice on your decision.
Randy Schmitke, CPA, MBA, is CFO of O&P Digital Technologies, Gainesville, Florida.