Question

Leases are one of the most common means by which companies obtain the use of long term operating assets. Lets look at the airline industry and the effect of leasing. What you believe are the benefits if any as airlines decide to lease versus buying assets? Why or why not?

Answer 1

Aircraft are considerably expensive purchases, especially when buying dozens of them for your airline. With orders frequently totaling in the billions of dollars, it is hard to imagine how an airline could possibly pay for all of the planes they have. Purchasing huge numbers of aircraft can tie up considerable capital and weigh down balance sheets, which is not viable for many airlines. This is where the aircraft leasing business steps in.

About 40% of jet aeroplanes currently flying with commercial airlines around the world are on lease (about 8,000 out of 20,000 aircraft) with a prediction to grow to 50% by the year 2022. But is leasing always better than buying? As with many questions of this type, there can be more than one answer, depending on particulars.

Advantages of buying:

• Opportunities to exploit the residual value of the assets in case of market upturns;

• Possibility of leverage on the assets in case of raising funds by using them as collateral;

• Cash flow benefits: no upfront payments needed;

• Up to date equipment: with a lease, companies pass the financial burden of obsolescence to the lessor and don’t have to deal with the hassle of finding new buyers at the time of dismissal;

• Balance sheet: operating leases do not appear as either assets or liabilities on a company’s balance sheet thus helping to control capital expenditure and sometimes to improve key ratios;

Disadvantages of buying:

• The initial outlay for needed assets may be too much: lines of credit may have to be tied up and not be used for other functions that can help grow the business;

• Eventually, the company may be stuck with outdated equipment as the costs of replacing are not affordable

• Pay more in the long run: ultimately, leasing is almost always more expensive than purchasing, as companies have to pay for financial charges;

• Commitment to long term agreements: depending on the lease terms, lessees may have to make payments for the entire lease period, even if they no longer need the equipment;

• Lessees don’t own the asset: therefore they need to look after it properly and need to ask permission before doing anything to it (like an upgrade or an alteration).

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Thanks & Regards

Rashi Aggarwal