Question

what is off balance sheet financing and how does that relate to capital (or operating) leases?

Answer 1

For anyone who was invested in enron, off balance sheet (OBS) finance is a scary term. Off balance sheet finance means a company does not include a liability on it's balance sheet.it is an accounting term and impacts a company's level of debt and liability.

Common forms of off balanc sheet financing include operating leases and partnerships.opearting lease have be widely used over the years, although the accounting rules have been tightened to lessen the use.

For example a company can rent or lease a piece of equipment and then buy the equipment at the end of the lease period for a nominal money or it can buy the equipment outright.in both cases a company will eventually own the equipment or building. The difference is in how a company accounts for the purchase.in operating lease the company records only the rental expenses for the equipment rather than the full cost of buying it outright.when a company buy it,it records the assests (the equipment) and the liability ( the purchase price) so by using the operating lease the company is recording only rental expenses which is significantly lower than booking the entire purchase price,resulting in a cleaner balance sheet.

Partnership are another common OBS financing item, and this is the way enron hid it's liabilities.when a company engages in partnership even if the company has controlling interest it does not hav to show the partnership liabilities on it's balance sheet, again resulting in a cleaner balance sheet