Leasing vs. Buying – Corporate Finance
|An issue that needs to be considered right at the beginning of any decision to purchase assets is whether to buy or lease them. If you decide to buy, then also consider use of debt to finance the purchase.
Ideally, businesses should only buy appreciating assets and lease depreciating ones. Buying is best if you will be able to make use of the asset for longer than what the ‘rental’ period would cover. However, if buying the asset would deplete the company’s cashflow, then buying becomes unattractive.
Further, if cashflow is not adequate and working capital is critical, then financing the asset purchase using debt must be considered.
Asset finance can be considerably complex and any mistakes made in choice of available options can cost the company in terms of profitability as well as balance sheet strength.
The most important forms of asset finance are:
· Installment sale – (also know as Hire Purchase), refers to a credit agreement in terms of which goods are sold by the bank to a customer over a negotiated period of time, agreed interest rate and installments of periodical payments. Ownership of the goods or assets pass to the customer after payment of last installment (suitable for M/Vehicles, Furniture & Fittings and Equipment)
· Rental – (Operating Lease), provides the customer with uninterrupted use of an asset, rather than ownership (suitable for computer equipment, photocopiers and fax machines, generally assets which are replaced on a regular basis)
· Finance Lease – Like with Operating Lease, provides the customer with uninterrupted use of an asset, rather than ownership. The customer has the option to take ownership or return the asset to the bank at the end of the period. Difference compared to Rental mostly lie in the treatment of VAT (balloon and stepped up payments can be arranged to suit customer company cashflow.)
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