Maximizing Tax Credits And Incentives Can Help Lower A Company’s Financing Costs

by Brad DeNoyer and Cory Wendt*

Whether it’s changing customer demands, compliance with new government regulations, intense competition, or technological advancements, today’s market pressures call for constant change within an organization.

Many market pressures require companies to make investments; if not now, in the very near future. Accordingly, access to capital is critical. Yet given the overall constrained market liquidity, there are fewer borrowing options than ever before, and investor scrutiny of potential investments has increased.

Perhaps nowhere has the need to respond to market pressures and invest in change been more critical than in the food and beverage industry. Business has been experiencing continued growth in areas such as packaged food products, organic foods, or specialty beverages. This growth has accelerated the need for capital to fund expansions and improvements.

According to the US Department of Agriculture (USDA), while the food and beverage industry has seen steady growth of its US retail sales, developing nations are creating a rapidly growing demand for US food product exports as a large number of these populations are growing in affluence. This combined growth has created new pressures in the production of food and beverage products at many companies’ existing US facilities.

Yet developing new expansion projects has additional implications that trigger several operational and environmental concerns. Today’s air, water and solids effluents management standards by the Environmental Protection Agency (EPA) and state natural resource agencies have become more stringent by the day. More growth means more waste to manage. Often a processing facility’s growth can be limited by its ability to consistently manage its waste streams.

Compounding the matter are elements external to operations that affect a processor’s ability to effectively manage its waste streams, namely the municipal treatment facilities that food and beverage companies rely on. Many treatment plants are already at their prescribed federal and state limits for daily phosphorus, Biological Oxygen Demand, and nitrogen levels, resulting in excess surcharges to processors. What’s more, scores of municipalities have aging infrastructures, with many built 50 years ago.

Processors aren’t likely to see a municipal remedy any time in the near future, if at all. Many municipalities are unwilling and unable to take on debt, particularly given the current economy and the sentiments of already burdened taxpayers.
Most municipalities also fear the consequences of incurring debt in order to accommodate a single, major industrial customer only to risk bankruptcy should that customer leave town or shutter its doors — a scenario that’s playing out in many parts of the country.

Add to this the pressures to comply with upcoming EPA or state requirements on CO2 emissions and it’s easy to see why food and beverage organizations are feeling unusually challenged.

For processors, addressing the byproduct issue with initiatives to treat their own waste streams isn’t considered the best use of capital in today’s climate. Investing and expanding the scope of non-core operations is an uncomfortable proposition for management — the move doesn’t typically support sufficient returns to warrant such an investment. This leaves few options for the producer to effectively grow in size or expand product mix diversity while remaining competitive.

The new mix of nontraditional financing
Tax credits and other government incentives are underutilized avenues to new capital needed for increasing market share and maintaining a competitive edge. They can lower a company’s financing costs, increase investment returns, and enhance cash flow.

Numerous incentives are available to encourage capital infusions and investments in a business, at various stages in the business cycle. Tax credits like the New Markets Tax Credits (NMTC) can present the ideal approach for taking an expansion project off the shelf, subsidizing that investment, while also meeting environmental regulations, resourcefully.
Enacted in 2000, the NMTC program encourages investment in economically distressed areas by offering a tax credit that when monetized can sometimes result in a benefit of up to 20 percent of the total project cost.

Nevertheless, the ultimate responsibility of managing these waste streams still falls to the processors. The fact is, the cost of growth must consider the full cost of handling the waste streams inherent in additional production.

There is a way to fund an expansion or improvement project and reduce the amount of cash needed. To do so, companies must consider a full range of nontraditional financing opportunities.

Other underutilized funding opportunities include Investment Tax Credits (ITC) which are based in renewable energy legislation. Processors may be thinking of a required waste management upgrade, but then overlook the energy related drivers inherent to their same project, which may now allow them to also qualify for the use of the ITCs.

“Many organizations are unaware of potential credits and incentives that could strengthen a company’s existing capital structure or provide funding, in whole or in part, for planned projects and expansion, thereby enhancing investor/owner returns,” says Thomas Walker, managing director and firm leader of Baker Tilly’s Private Equity and Transaction Services practices.

In addition to tax credit programs, other important capital sources include negotiated incentives, loan programs, state and federal bonding programs, discretionary grants, and many more opportunities.

With greater equity in a project and a lower loan-to-value, a company’s endeavor becomes more attractive to other investors, making it easier for the organization to bring more parties to the financing table if needed or desired.

This often-overlooked approach to obtaining capital can also establish a strategic collaboration between processing facilities and their municipalities. It can help foster more resourceful waste management solutions between private and public entities whereby both parties benefit.

Processors are able to build expansions that include waste management capabilities more affordably by using tax credits that municipalities aren't able to use. Those municipalities are then relieved from having to pursue sizable bonds to help fund improvements needed to handle additional capacity.

Also, without the major processor’s waste stream, municipalities have more capacity to allow for more residential services and/or to accommodate potential new manufacturers in the community.

For processors, the responsibility for waste management and its accompanying costs is theirs either way. This approach simply puts more bottom-line control back in the hands of business.

By adopting a comprehensive approach to capital that includes a variety of nontraditional financing sources, companies can reduce the amount of capital in a project by as much as 50 percent, thereby cutting the number of years needed to recover such an investment in half.

Maximizing The Opportunity: The Scenario
Combining incentives that apply to expansion with an initiative to reduce dependence on services from a municipality can be a smart and cost-effective growth move.

Consider this example: ABC company is a food processor in dire need of expansion due to increased market demand. The processing facility has available capacity; however, its growth is constrained due to the company’s reliance on the municipality's treatment of its waste, which is at capacity.

And, given the lack of space and the current economic realities, expansion of the municipal treatment facility or a bond solution is not very likely.

Meanwhile, waste management charges to ABC keep inching upwards while the threat of federal and state requirements to lower limits loom. The company knows it’s time to put a growth plan into action and that plan has to assess the handling of its waste.

With the assistance of an engineering firm, ABC determines that the most viable waste management solution is an anaerobic digestion system that is estimated at $10 million. ABC calls on a knowledgeable advisor to help it bring the disparate project development pieces together and structure financing.

Because ABC is located in a low-income rural community, the advisor suggests it pursue the financing option of the NMTC and guides ABC through the rigorous application process. Knowing that ABC’s waste streams have the potential to be great feedstocks for energy production, the advisor also recommends that ABC evaluate adding electrical generation which makes the project eligible for energy-related incentives.

By combining the NMTC with an energy related investment tax credit, additional tariff rates, and utility rebates, ABC’s total project cost is reduced by nearly 50 percent.

As a way to demonstrate the net effect of what the use of NMTCs and the ITC can mean to a project, we have highlighted two food processors who are considering anaerobic digestions systems. Processor A is solely focused on how to reduce the total waste effluents to allow for a planned plant expansion to add a new product line at their rural facility.
While the new food product is in demand, the thought of spending $10M that is not tied to further production of more product doesn’t add up given the low return.

Meanwhile Processor B has looked at the same scenario to reduce their ongoing waste liability, but further considers the energy attributes essential to the long-term energy risk management.

As Processor B performs a comprehensive analysis, it becomes apparent that the combined available incentives allow for a larger project scope to be considered, while reducing their original net capital outlay. They also feel in addition to having a competitive internal waste management strategy, they have created an internal electrical and thermal pricing stabilization mechanism for their plant’s own energy usage.

The table above walks through the final implications to Processors A & B as they determine the viability of an anaerobic digestion system at their plants:

Now’s The Time
In the new economy, companies must take a comprehensive and nontraditional approach to capital. Tax credits and incentives can be the key in the overall equation, but timing is critical as some are due to expire or may undergo changes in benefits.

Many treatment plants are already at their prescribed federal and state limits for daily phosphorus...resulting in excess surcharges to processors...Processors aren’t likely to see a municipal remedy any time in the near future, if at all.

By further creating a public/private collaboration, a company can develop an opportunity for expansion that also creates a competitive value proposition for the organization.

To make that financial strategy a reality requires an understanding of the various intricacies of credits and incentives, both at federal and state levels. It’s one thing to qualify for funding; securing it is entirely different. Be cognizant that other project development decisions you make can impact whether or not maximum tax credit benefits will be realized.

Applying for credits and incentives and optimizing their benefits is a process, to be sure. But the ability to bring growth plans to life at a significant cost reduction is more than worth the time and effort.

*Brad DeNoyer leads the Baker Tilly Food and Beverage practice as the US firm wide manufacturing partner and has more than 20 years of experience serving the manufacturing sector; brad.denoyer@bakertilly.com.

Cory Wendt works as a manager within the Energy & Utilities practice area and specializes in development support of resource efficiency and renewable energy projects; cory.wendt@ bakertilly.com. r