# What Is an Acquisition Cost in Business Accounting?

## What Is an Acquisition Cost?

An acquisition cost, also referred to as the cost of acquisition, is the total cost that a company recognizes on its books for property or equipment after adjusting for discounts, incentives, [closing costs](https://www.investopedia.com/terms/c/closingcosts.asp) and other necessary expenditures, but before [sales taxes](https://www.investopedia.com/terms/s/salestax.asp). An acquisition cost may also entail the amount needed to take over another firm or purchase an existing business unit from another company. Additionally, an acquisition cost can describe the costs incurred by a business in relation to the efforts involved in acquiring a new customer.

### Key Takeaways

*   Acquisition cost refers to an amount paid for fixed assets, for expenses related to the acquisition of a new customer, or for the takeover of a competitor.
*   It is useful in identifying the full cost of fixed assets because it includes items such as legal fees and commissions and removes discounts and closing costs.
*   Acquisition costs are also useful to determine the full expense incurred in enticing new customers, and it can be used to compare to the revenue new customers generate.

#### Acquisition Cost

## Understanding Acquisition Costs

Acquisition costs are the expenses incurred in procuring assets, goods, or services. They're the cost necessary for business operations, but they may come up with an upfront cost.

The significance of acquisition costs transcends mere financial transactions. They serve as vital metrics for evaluating the efficiency and efficacy of procurement processes. It can also act as a [barrier to entry](https://www.investopedia.com/terms/b/barrierstoentry.asp) for specific goods and industries.

Acquisition costs can also have influence over pricing strategies, profit margins, and overall competitiveness within the marketplace. Businesses must strike a delicate balance between minimizing acquisition costs to enhance profitability and ensuring that quality and value remain uncompromised. For example, it may be cheaper to procure certain goods; however, these may be lower quality or less unique and do not satisfy customer needs.

## Types of Acquisition Costs

The list below is not meant to be exhaustive; instead, use this list as a reference to potential types of acquisition costs. Acquisition costs can include:

*   **Direct Acquisition Costs:** These are the primary expenses directly associated with acquiring assets or goods. The purchase price represents the actual cost of acquisition, while freight and shipping costs cover expenses for transporting the acquired assets to the business location.
*   **Installation and Setup Costs:** This category encompasses expenses related to setting up or installing the acquired assets, such as machinery or equipment. Additionally, it includes training expenses incurred to educate employees on operating or utilizing the newly acquired assets effectively.
*   **Legal and Administrative Costs:** These costs entail fees for legal services, contract drafting, or administrative tasks. Additionally, consultancy fees may be incurred for hiring external experts or advisors to provide specialized insights during the acquisition.
*   **Regulatory and Compliance Costs:** This category includes taxes, duties, and expenses related to ensuring compliance with prevailing rules. Taxes and duties are also levied on the acquisition of goods or assets, in many cases.
*   **Financial Costs:** Financial costs encompass transaction fees and interest expenses incurred during the acquisition process.
*   **Inventory and Asset Costs:** These costs encompass expenses related to acquiring inventory including raw materials, components, or finished goods.
*   **Operational Costs:** [Operational costs](https://www.investopedia.com/terms/o/operating-cost.asp) include rental fees for equipment or facilities necessary for the acquisition process, as well as travel expenses incurred for visiting suppliers or inspecting potential assets. Note that once an item is in place, those types of costs are usually not considered acquisition-related. However, there may be a steep learning curve to using the good, meaning operational costs may be higher in the short term before efficiencies are captured.

> **Fast Fact**
>
> An acquisition cost can be paid for well after something has been acquired. The timing of an expense can be misleading, so be cautious when analyzing total acquisition costs.

## Importance of Acquisition Costs

Tracking acquisition costs is important for a few reasons. First, it facilitates financial planning and budgeting by providing insights into future expenses associated with acquiring assets or goods. This optimization can help a company with its profitability and operational efficiency, as it knows what it will need to spend for future acquisition costs.

Monitoring acquisition costs is also important for profitability analysis. By understanding the impact of acquisition costs on overall profitability, businesses can assess the financial viability of projects. For example, a product may have a [profit margin](https://www.investopedia.com/terms/p/profitmargin.asp) of 60%. However, it may cost the company five times as much in acquisition costs as any other product. The company should do a profit analysis and review its long-term plans to make sure the plan fits its portfolio, especially from a profit-recovery standpoint.

Tracking acquisition costs supports strategic decision-making processes such as mergers, acquisitions, and investments. In the example above, a company may find itself in a similar situation but regarding the acquisition of a [competing company](https://www.investopedia.com/ask/answers/032515/what-difference-between-perfect-and-imperfect-competition.asp). By understanding how its financial picture will shape up after the acquisition, the acquiring company can better understand whether the buy is a good decision.

![Acquisition Cost](https://www.investopedia.com/thmb/yzibs-C3DQxBKSP7wywNoTe_xaA=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/Acquisitioncost2-db2a5b442fbf494486a3d940a7489beb.png)

*— Investopedia / Julie Bang*

## Acquisition Costs and Taxes

Acquisition costs and taxes are somewhat interconnected. Taxes may directly impact acquisition costs through various channels, including import duties, sales taxes, and [value-added taxes (VAT)](https://www.investopedia.com/terms/v/valueaddedtax.asp). Similarly, sales taxes or VAT imposed on the sale of assets can significantly inflate acquisition costs, affecting the affordability and financial feasibility of acquiring assets for businesses.

One thing to keep in mind is IRS treatment for acquisition costs as well. Depending on what the cost is, a company may have a specific tax treatment of the cost. For example, when starting a business, many different types of expenses should be capitalized. These costs include a survey of potential markets, advertisements, salaries, or travel. There are also specific rules around recoverable acquisition/start-up costs when buying an active business.

## Acquisition Costs and Goodwill

Acquisition costs and [goodwill](https://www.investopedia.com/terms/g/goodwill.asp) are closely related components of accounting for business. When a company acquires another business, goodwill arises when the purchase price of an acquired business exceeds the fair value of its identifiable net assets (assets less liabilities) at the acquisition date. Goodwill represents the premium paid for the business over and above the fair value of its tangible and identifiable intangible assets.

Goodwill is considered an intangible asset on the acquirer's balance sheet. It's reviewed from time to time and can be written up or down. It's important to note that goodwill can be recorded at the time of an acquisition, but it isn't technically an expense like other forms of costs. There's no invoice related to goodwill. However, it is the value that the acquirer must pay for based on the inherent value of a company.

The presence of goodwill reflects the value attributed to intangible factors such as brand reputation, customer relationships, skilled workforce, and strategic positioning. These can not be separately identifiable and measurable from the acquired business's net assets. However, they may be directly correlated to why a company is acquiring another, so goodwill and acquisitions are very closely related.

## Example of Acquisition Cost

Home Depot's announcement to acquire SRS Distribution Inc. marks a strategic move aimed at expanding its offering and capabilities for professional customers. This acquisition aligns with The Home Depot's objective to better serve complex project purchase occasions. Through this acquisition, The Home Depot anticipates an expansion of its total addressable market by approximately $50 billion.

From a financial perspective, Home Depot plans to fund the acquisition through a combination of cash on hand and debt. This shows a bit of confidence in the move, as the company is paying for the acquisition costs by incurring debt. The total transaction value/acquisition cost is $18.25 billion.

## How Are Acquisition Costs Differentiated From Other Types of Costs?

Acquisition costs are distinct from other types of costs, such as operating expenses or production costs. While operating expenses represent ongoing costs incurred to maintain day-to-day operations, acquisition costs specifically pertain to the initial acquisition of assets or goods.

## What Are the Main Components of Acquisition Costs?

The main components of acquisition costs typically include the purchase price of the asset, any transportation or shipping costs associated with acquiring the asset, installation or setup fees, legal and administrative expenses, and any additional costs necessary to bring the asset into use.

## How Do Acquisition Costs Impact Financial Statements?

Acquisition costs have a direct impact on a company's financial statements, particularly the balance sheet and income statement. On the balance sheet, acquisition costs may be capitalized as assets, increasing the value of the company's asset base. This also means the cost of these goods will hit the income statement as an expense over time through the amortization process.

## What Role Do Acquisition Costs Play in Pricing Strategies?

Acquisition costs play an important role in pricing strategies as they directly impact the cost structure of products or services. A company may wish to recoup these acquisition costs quickly; therefore, they may price their goods higher. Companies with more patience may try to recover these costs over a longer period of time but may face more risk in doing so.

## The Bottom Line

Understanding acquisition costs is an important part of business accounting. Acquisition costs influence pricing strategies, profitability analysis, and decision-making processes like mergers and acquisitions. Businesses must efficiently track, analyze, and optimize acquisition costs to make the most of their long-term plans.

> **Article Sources**
>
> 1.  IRS. "[Here's How Businesses Can Deduct Startup Costs From Their Federal Taxes](https://www.irs.gov/newsroom/heres-how-businesses-can-deduct-startup-costs-from-their-federal-taxes)."
>     
> 2.  The Home Depot. "[The Home Depot Announces Agreement to Acquire SRS Distribution, a Leading Specialty Trade Distributor Across Multiple Verticals](https://ir.homedepot.com/news-releases/2024/03-28-2024-100102814)."
>     
> 3.  Home Depot. "[The Home Depot to Acquire SRS](https://ir.homedepot.com/~/media/Files/H/HomeDepot-IR/2024/2024%20SRS%20Investor%20Slides%20vFinal.pdf)."