What are the benefits of leasing equipment rather than purchasing it?

Business owners and financial managers in business finance are always faced with the same decision in acquiring an equipment lease, namely should we buy or lease. Technically this is referred to in the finance books as the infamous ' lease vs. buy 'decision.

Let's examine some of the key points and facts you need to consider in that decision. Naturally the good news is that an equipment lease can be used to acquire almost any type of equipment or asset - that includes equipment, machinery, buildings, etc. More often than not it pays to seek a business financing advisor who is well versed in the benefits and nuances of equipment finance.

Working capital and cash flow tend to be the main drivers of the lease vs. buy decision when we talk to clients. It goes without saying that most Canadian leasing companies probably have a lower cost of capital then your firm based on their borrowing capacity and the way they are funded. Therefore that lower cost of capital becomes a positive advantage in the lease vs. buy decision.

In many cases the lease vs. buy decision will be very close and the actual non financial benefits of an equipment lease will drive your final decision. For example, although you might be in a position to construct a favorable buy versus leasing model you might not want to use business lines of credit to access the cash needed to acquire the asset.

Also one of the key tenets of finance is that you should use long term funds to fund long term assets - that just makes common sense. Simply speaking you don’t want to purchase an asset as opposed to l easing it and find out you might not be able to make payroll on Friday because your line of credit is maxed out!

As we said, some of the pure mechanical decisions around the lease vs. buy tool (there are numerous on line calculators which are references as lease vs. purchase analysis tool) can often be over ridden in your analysis by non financial considerations. For example, let’s say you clearly don’t want to keep the asset at the end of the term of its useful economic life. That’s where an equipment lease makes total sense, as it gives you the ability to return, extend, or even purchase the asset if in fact you end up deciding to purchase and keep it if your circumstances change.

Business owners might want to consider talking to their accountant or a business financing advisor on larger capital asset acquisitions. Some of the inputs required in the lease versus buy model include items such as the actual interest rate the lease company is charging you, your tax rate, the projected increase in profit via use of the asset, the depreciation expense you can take on the asset and your overall cost of capital which is calculated by analyzing your debt and equity in the business. Whew!! That’s some fancy accounting and it can best be left to your accountant or advisor on larger asset financing acquisitions. However the good news is that a simple computer spreadsheet handles all this for us nicely!

In summary the leasing versus buy tool in business finance can be a great asset in your financing decisions for new assets. Adopt Warren Buffets key approach, which is simply to determine if the asset financing opportunity delivers a solid return on equity for your business.

Yes our tool we outlined is important, but at the end of the day use business common sense to analyze the equipment lease opportunity and blend it into your overall business financing strategy .

Luke -

Leasing equipment will give you the access to (typically) the newest equipment on the market. Depending on the length of contract, you could then trade it in for the latest and greatest. Should there be an issue, you may not be faced with having to pay for any repairs. You also are not faced with the initial investment of purchasing outright up front, you can "test it out".

The downside is leasing typically does not have the ROI of purchasing and you can never put leased equipment on the books as an asset.

Leasing is, in its essence, just another form of financing. With most leases the owner of the equipment is financing your use of the equipment and thus avoiding the necessity of a loan from a third party. Therefore, when you lease you should consider it as a financing option and compare it with other financing options in order to choose the terms that best meet your needs.

From a financial standpoint, the advantages of leasing over purchasing can be found at:
http://www.smartfinanceoptions.com/LEASINGCOSTCOMPARISON.pdf

and

with the new Bush-Obama tax cut extension, the tax advantages are tremendous. See a White Paper at: http://www.smartfinanceoptions.com/2011-WhitePaper-NewEquipmentLeasingTaxProv...

With a lease you have a fixed expense for a set period of time. With a purchase you may have the opportunity to accelerate depreciation and lower taxes upfront.

Purchasing industrial equipment such as a forklift is not always easy, and unless you really have a need to own something like this, it really isn't worth buying heavy machinery for your company. While some companies can indeed benefit from buying a forklift, many would much more easily benefit from leasing a forklift only in situations where they really need it.

Source: http://www.buyerzone.com/industrial/forklifts/rfq-forklifts/

Most business owners and financial managers realize they can either purchase fixed assets out of equity, or finance those same assets on a long term lease.

Business owners need to focus heavily on the use of the asset. Any company that acquires assets has either a long term view of the asset or a short term view. Lease financing is an excellent method of financing long term assets.

From the company perspective a long term lease on the asset - typically 3-5 years, and sometimes longer, is simply a method of purchasing the equipment via a ' loan '. The company simply decides on which asset or assets they wish to acquire, and then negotiates a price with the vendor or manufacturer. Typically the company is either dealing with the vendor/mfr. or the captive finance firm related to that manufacturer.

Business owners are barraged with claims that ' leasing provides 100% financing ' or that it ' conserves capital '. More sophisticated business owners and financial executives know that long term leasing is in fact a solid mechanism for tax avoidance. Some people maintain that if corporate taxes disappeared long term leasing would disappear!

When a firm arranges leasing it of course uses the equipment, and makes fixed payments on that equipment. Business owners focus more often than not on ' using equipment ', not owning equipment. The user can though structure leases allowing them to purchase the equipment at end of term.

If a customer does not wish to acquire assets over a long length of time, and if those assets have a shorter useful economic life than a firm should consider an ' operating lease '. The company has the right to cancel the lease at the end of term, return the asset, etc. In long term asset financing the transaction cannot be cancelled.

If a firm utilized a purchase strategy for long term assets then the funds for those purchases come from equity shareholders. The company uses the asset, and it owns the asset. Many customers have a philosophy of ' pride of ownership ' and have long term histories of acquiring assets under a purchase strategy. If the company is properly funded this is of course an entirely viable option.

We would point out further that if the financial markets were ' perfect ' ( they are not!) the advantages of leasing would diminish. In that case the company would not have to consider legal costs, brokerage costs, and other miscellaneous fees. Leasing matters because there are no perfect markets - advantages gained by the lessee are at the expense of the lessor, and each company has a unique credit and risk profile.

In summary, each company has a unique financial structure and acquisition philosophy around financing and asset acquisition. Owners and managers must consider the optimal financing strategy for long term assets that best suits overall corporate needs

Luke - the answer you gave "...you can never put leased equipment on the books as an asset." is wrong.

If you take any lease other than Fair Market Value (i.e. sign on for a $1 buy back lease), you have in essence financed capital equipment. As such it appears on your Balance Sheet under Equipment Assets (or similar title).

Fair Market Value leases are just that, leases; because your only financing a portion of the asset. Think auto leases (although since there is a stipulated buy-back in the contract for an auto, many CPA's will also place it in the asset category) you are only financing a portion of the total cost of the vehicle, also known as renting.

On another point raise, ease of moving in and out of leases, I don't fully agree.

I normally take FMV leases (the last 6 leases, I won 5, lost 1). What I mean by winning and loosing is that the total cost of owning the item leased was less than financing the entire cost over the period, if I had to buy it outright.

Many leasing firms don;t want the material back, and thus the FMV at the end of the lease is palatable. Some firms IMHO play games, and so they make a bunch of bucks at the end of the lease, but loose customers for gouging.

But back to why I don't think moving in and out is so easy. I've leased furniture, computers, software, infrastructure, etc. There are additional costs in returning your lease (usually you the leasee pays for shipping) which include breakdown and office disruption.

I priced the cost of buying 3 year old MACs vs buy new, and the cost to wipe the MAC's data and restore the OS plus setting up the new MACs was three times more than the cost to buy them at FMV.

Just an example. I tend to agree with others that look at cash flow and decided leasing based on tax and/or financing needs rather than "gee I can get new equipment in 2 years".