Lease or Buy?
Consider the answers to five crucial questions before deciding which option works best for your company.
by Olen Hunter
Truck and engine manufacturers have introduced numerous innovations in new truck models responding to ever-changing environmental regulations and the need to reduce the greenhouse gases that contribute to global warming. And with the price of diesel fuel at record levels, they’re working to provide new technologies that maximize driver productivity and fuel economy.
The complexities of choosing and servicing these new truck technologies, and balancing them with the company’s transportation needs, can be challenging. As a result, truck leasing can be a crucial strategy in accomplishing your company’s transportation needs, particularly if you want to take advantage of emerging technology, which is rapidly advancing in trucks in shorter and shorter cycles.
But before making the decision about whether to lease or buy a new piece of equipment, ask yourself the following five questions:
1. What is the best use of your company’s capital?
Every company is different. Depending on whether your company is privately or publicly held, how it’s capitalized and how it measures the success of business activities will determine the best use of its capital. Companies finance their business activities through equity and debt.
Financial decision makers (chief financial officers, vice presidents of finance, etc.) spend much of their time ensuring that their companies leverage borrowing power (debt) and equity (retained earnings/stockholders equity) in a balanced manner to get the highest return possible.
When buying new equipment that depreciates, like trucks, most organizations seek to gain a minimum amount of return on their investment. That’s why financial decision makers will evaluate whether the equipment investment offers their companies a return higher than their “hurdle rate.” That rate is usually defined as the company’s weighted average cost of capital plus a nominal premium. If they determine the equipment does not offer a return that’s higher than the hurdle rate, then leasing may offer them a great alternative. Additionally, many financial decision makers will perform a net present value analysis of the lease or loan payment stream, which allows them to review the payments in today’s dollar value.
If you find yourself in similar circumstances when considering a lease or purchase decision, it’s important to conduct a return-on-investment (ROI) calculation to determine whether your company should use equity or debt to finance the equipment. Lease accounting treatment, which falls into two main categories – on-balance sheet and off-balance sheet – can favorably impact a company’s key financial ratios like return on assets (ROA) and ROI. If your company is measured on a key financial ratio favorably impacted by lease accounting treatment, you should take this into consideration.
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