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Thoughts / 01/22/2018

Capitalize your custom software development to fund enterprise growth

You’ve just paid half a million dollars to a custom software development company to create a customized software solution to help organize and manage your business. Now that Phase I is in service, how are you going to pay for Phase II and possibly even Phase III without having a significant impact on your operating cash flow?

The solution may be in treating your company’s new custom software solution like any other fixed asset and presenting it to your bank to be borrowed against. As an asset on your balance sheet, it can help fund the next stages of your custom software development solution.

Funding custom software: Prepare to make your case with your banker

The first step to funding this kind of approach is to have a conversation with your banker and lay out your plan: By having already paid for and implemented Phase I out of your operating cash flow you have created an asset on your balance sheet that can be put to work for you as collateral to fund subsequent phases under development.

Projects that can be borrowed against generally meet the following criteria:

  • Phase I has been completed allowing capitalization of costs to begin.
  • Management is committed to funding the software project.
  • The custom software solution will be used as intended.
  • Future iterations of development will be followed through to completion.

While you may not get full credit for the asset, if it’s already adding value to your business your bank may be more agreeable to lending additional money against that asset.

Custom software development is expensive. Why pay for it out of pocket?

Even for small and medium size businesses, the costs for designing and building custom software solutions that run your business can run into the millions. While an asset-based funding approach may not work for every business and its banking partner, the possibilities are worth exploring because the logic of the concept is valid and the value of the asset is real.

Take “Company A” as an example.

Company A’s growing business needed a custom software solution to increase productivity, improve service, enhance their response times and improve competitive positioning. This included the processes involved in creating quotes, taking in quote requests, managing their ordering and fulfillment processes, managing production scheduling and fulfillment of the jobs themselves, as well as managing personnel and a large fleet of trucks.

In fact, nearly every internal process in Company A’s business needed to be improved and streamlined to improve operational efficiencies that would enable key staff to be freed up to handle more value-driven tasks. With no off-the-shelf management software capable of meeting these demands, Company A had to look elsewhere and hire a software engineering firm to help them meet their organizational and efficiency objectives and drive their business forward.

Finding their custom software solution behind DOOR3.

That’s where DOOR3 comes in. A sophisticated custom software solution of this scope that guarantees high-payback improvements requires a significant investment to fund development. But how can a client afford such an investment without putting intense stress on cash flow? DOOR3’s solution was to block off six months to engineer the software infrastructure, deliver it, enter it into production and turn that spend into a hard asset with real value that the client owns.

In Company A’s case, they already had a lot of hard assets on the books and an asset-based lending relationship with a bank. All of these factors were helpful in convincing the lender that Phase I of the custom software was indeed worth serious consideration as a hard asset and that funding additional phases was in their client’s best interests.

Rather than deploying single “big bang” releases in these situations, DOOR3 recommends delivering iterative releases that can be capitalized as collateral for loans from banks to fill out the total project, whether or not there’s a pre-existing asset-based lending arrangement with a bank.

DOOR3’s iterative release solution works in both asset-based and regular funding scenarios by helping our clients fund their custom software installations in phases without tying up operating cash flow. Each newly completed phase that’s added to the balance sheet becomes an asset to help fund the subsequent phases. The impact of custom software development on cash flow is significantly reduced for both companies and completion of the entire software installation and implementation is assured.

Involve your accountant in the early stages when thinking about custom software development capitalization.

It’s important to get your accountant involved as there are several software capitalization accounting rules that depend on the stage of development of the project: From the initial stages when planning and decisions are made about the vendor who will provide the custom software; through to the development and implementation stage, and finally costs related to training and systems maintenance. Another key aspect is your business has to be running under accrual accounting. This funding scenario does not work under cash accounting. In essence:

  • Software capitalization recognizes internally-developed software as fixed assets.
  • Internal use means when the software has been acquired or developed only for the internal needs of a business.
  • There can be no intention or plan to market the software outside of the company.

Furthermore, your business may be eligible for research and development tax credits or cash back from federal and state governments for your custom software development.

Are you looking for a custom software development partner? Call DOOR3.

DOOR3’s team of experienced engineers, designers and UX/UI experts fully develops, designs and executes elegant solutions to bring businesses to the next level. Our award-winning user experience experts, elite developers, and visionary designers work together with client teams to create custom software development solutions that transform the way business works. To learn more, contact us.