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(^378) Financial Management
Advantages of Leasing. Lease financing is viewed to possess a number of advantages
for the lessee. Perhaps one of the major advantages of leasing is that it provides for the
use of equipment with 100 per cent debt financing. That is, a firm that is leasing equipment
does not have to make a down payment. Such is not the case when a firm borrows to
buy the same equipment. Very rarely will a lending institution provide a loan equal to the
purchase price of the equipment. More typically, it will require the firm to take an equity
position equal to 10 or 20 per cent of the equipmentís purchase price. Some, however,
argue that this advantage may be illusory, because 100 per cent financing provided by
leasing uses up more of the firmís debt capacity than buying the equipment with an 80
per cent loan.
The current trend in financial reporting is toward full disclosure of financial obligations
created by leasing arrangements. Once firms are required to capitalise lease obligations
and to integrate lease capitalisationís fully into their financial statements, the advantage
of 100 per cent financing in leasing will diminish significantly.
Another advantage of leasing is that it provides the lessee with flexibility in acquiring
the use of specialised equipment that may become obsolete for the lessee but may be
still a productive asset for another firm. Items such as lessee but may be still a productive
asset for another firm. Items such as computers and copying machines fall in this
category. A third generation IMB equipment may become obsolete as far as a large
manufacture is concerned but may be readily utilised by a small manufacturer. A firm
may prefer to lease a computer and then let the lessor handle the subsequent lease of
the computer to another firm. The lessor has specialised skills in doing this and can do
a better job of leasing the equipment again.
Another advantage of leasing is that the provisions typically associated with term loans
are not present in lease financing. A firm that does not with to conform to minimum
current ratio requirements, and so forth, may find the lack of these restrictions in lease
financing to be a starring enough motive to prefer leasing to borrowing.
A final advantage in leasing is that the lessor and lessee can negotiate over who utilises
the investment tax credit. A firm that is not able to fully utilise the tax credit may let the
lessor retain the credit and settle for lower annual lease payments. This planning flexibility
is not available with borrowing and buying when the tax credit goes to the buyer.
Disadvantages of Leasing. The major disadvantage of leasing is that the residual
value of the leased asset at the termination of the lease belongs to the lessor. The
typical leasing arrangement calls for a full amortisation of the cost of the equipment.
One frequently encounters examples where the cost of leasing an automobile covers
complete amortisation over 4 years of the automobile cost. If, after 4 years, the lessor