Leasing and Financing
Equipment Acquisition Options
The decision to finance or lease must be made in light of your company’s current position, its short- and long-term objectives, its anticipated equipment needs and the regional environment. Each option has its pros and cons. Take the time to learn what your options are and be informed as to why one choice is most appropriate for your business.
As the U.S. economy starts to emerge from hibernation and we begin to see signs of life, more executives are considering when they might need additional equipment to meet their business needs through this year and into 2011. Whether you are currently in the market for a new or used truck, a review of your finance and lease options is always timely. And since all finance providers are not created equally, it’s important to know what to look for when choosing a leasing or finance company.
How Are We Going to Pay for This?
Some companies choose to pay the full amount for their equipment in cash. This course of action may be an attractive option to some because it brings the satisfaction and security of knowing that no future payments will come due. However, before you take this route, it’s wise to consider whether you want to tie up your capital in an asset that is not as liquid as cash. In uncertain economic times, excess cash can make the difference between surviving or not.
Company owners who are not in a position to pay cash outright or simply do not wish to tie up their money, may want to consider the tax and accounting benefits that can be realized by financing or leasing. Along with other key benefits, doing so helps them match the expense of acquiring refuse equipment with its revenue generating capacity.
When is Leasing Right For Your Company?
Leases come in a variety of structures, but for our purposes here, we’ll consider them contracts for use of equipment for an established period of time in exchange for regular payments. Leases also specify details such as insurance requirements, default provisions and end-of-term options including purchase or return provisions. There are three main areas to explore when deciding if a lease is best for your company: 1) use of the equipment, 2) financial considerations and 3) accounting/tax advantages.
Since leases can be built with a purchase option at the end of the term, they can minimize the risk of the equipment becoming obsolete. Leasing might be an appropriate way to meet the need without having to worry about what to do with the equipment at the end of the term. Likewise, the terms can be negotiated based on the estimated productive life of the equipment. So if you are concerned about resale value, maintenance costs or equipment efficiency once the term ends, you may choose to lease. In either case, leasing requires forethought about your immediate equipment needs and your short- to medium-term outlook for contracts, equipment values and economic conditions.
The primary financial benefit of leasing is that it conserves cash in the short term and spreads associated expenses over the life of the asset. Leases typically require just one or two payments at the beginning of the term plus the period rents. Lease plans can be negotiated according to the equipment’s useful life, which may have the effect of prolonging repayment terms (and thus reducing monthly payments). By conserving cash that would otherwise be tied up in capital expenditures, a company may be able to manage growth opportunities more appropriately.
Accounting and Tax Benefits
Depending on the circumstances, and on the type of lease entered into, you can retain the option of designating the equipment payments as capital or operating expenses. For example, a tax-oriented (or operating) lease need not appear on the balance sheet—cash outlays each month show up on the statement of cash flows as rents on the equipment. Generally speaking, lease payments are relatively simple to account for because you make a predictable cash payment on a regular basis. In some types of leases, for tax purposes, the owner is entitled to take accelerated depreciation and is entitled to certain tax credits when in effect.
An equipment leasing specialist can help you make sense of the varieties of leases that exist. Leasing equipment may not be right in all situations, but it does have distinct advantages if you don’t want to actually own the equipment. If your company has special requirements for how to account for the asset or for how to manage tax burden, visit with your tax advisor to understand all of the benefits and rules associated with the various types of leases.
Making the Case to Finance Your Equipment
In contrast to a lease, a finance solution allows you to actually take ownership of the truck or equipment, which means a different set of responsibilities and expenses. There are a number of factors to consider when determining if a financing solution is appropriate.
A financing solution may be able to help conserve your working capital in a similar way that a lease helps conserve cash. For example, paying the full sale price in cash can significantly reduce the Current Assets account on your balance sheet. By making a down payment and financing the balance of the price, the Current Assets account is reduced by much less. If you can trade in a piece of used equipment instead of making a cash down payment, nothing is subtracted from Current Assets. In addition, only the first year’s payments are added to the Current Liabilities account.
Paying for equipment over a period of time can also help you preserve your credit lines. In other words, you need not reduce your availability on a line of credit that is often more suited for meeting short-term operating expenses, such as payroll, rather than meeting a long-term capital equipment need. This can help you preserve liquidity and increase your flexibility to use cash for other activities.
Financing equipment allows you to claim all the benefits of ownership, including the ability to take depreciation on the truck. Rather than delaying your purchase until you have enough cash, with a finance package you can acquire the needed equipment, put it to work immediately and have it pay for itself with increased productivity and earnings. In other words, by paying over the long-term you get immediate value but pay with “tomorrow’s dollars.”
Financing equipment with a term loan or with a secured line of credit may make sense when you have long-term contracts that reasonably assure you of being able to make the payments for the life of the loan. Although the refuse industry might be viewed as somewhat recession-proof due to the fact that people continue to produce garbage in good times and bad, the risk that a customer might not be able to pay during difficult times is heightened. Watch environmental factors such as the cyclicality of the regional market, your ability to win profitable contracts and customers’ ability to pay as indicators that you can take on a long-term agreement.
Financing can be arranged with the equipment seller or through a third-party lending institution. Talk with your equipment dealer; he can often refer you to a reputable lender that has experience in the waste industry, is easy to work with and can provide you with competitive rates. Although you may be quite familiar with the features and benefits of a certain kind of truck, you do yourself much good by considering the features and benefits of a variety of finance options and by knowing your financial situation before you step on the lot to buy.
Choosing a Financing or Leasing Company
Work with an experienced funding source that understands the waste industry’s equipment and cycles. These veterans can intelligently evaluate your financial statements and can deliver a variety of products specifically targeted for the waste industry. Financial institutions with industry expertise also understand market disruptions and appreciate the fact that some things are not within management’s control.
The decision to finance or lease must be made in light of your company’s current position, its short- and long-term objectives, its anticipated equipment needs and the regional environment. Each option has pros and cons. Take the time to learn what your options are and be informed as to why one choice is most appropriate for your business.
Jon Eide is National Sales Manager for the Commercial Vehicle Group at Wells
Fargo Equipment Finance, Inc. (Minneapolis, MN). He has more than 20 years of experience in the vehicle financing and leasing. John can be reached at (612) 667-5238 or via e-mail at Jon.D.Eide@wellsfargo.com.