Four ways equipment leasing can be used to maintain a better cash flow and lower asset risks.
Construction industry entrepreneurs are keenly aware of the economic downturn’s impact on their businesses. Many have developed a new appreciation for keeping cash on hand. They have also begun exploring risk management strategies with renewed intensity. In this current environment, it is worth considering equipment leasing as one risk management strategy. Equipment leasing offers both risk management techniques and compelling cash management advantages.
The construction industry has a deeply ingrained culture of ownership regarding heavy equipment. However, many benefits of leasing apply to all segments of the construction industry, regardless of the type of equipment being considered. Although each company’s situation is unique, there are advantages to leasing rather than buying.
1. Add Flexibility and Improve Cash Management
Leasing can help businesses improve cash management and create flexibility by freeing up capital that would otherwise be devoted to purchasing new equipment. Leasing also provides a predictable and more affordable payment system—owners who have faced difficult conditions over the last few years can appreciate this. By working with lenders accustomed to dealing with equipment leasing, managers can obtain leases that are structured to maximize the cash benefits of intricate tax and accounting rules. This creates financial flexibility.
2. Mitigate Asset Risks
Leasing mitigates many types of asset risks like the high, but necessary, cost of maintenance. For example, a piece of demolition equipment that is being used in the decommissioning of an industrial plant may need maintenance work. As equipment ages, it is prone to problems no matter its cost and size, but this is particularly significant given the extreme conditions in which this equipment is employed. Equipment maintenance takes time away from scheduled projects, and this interruption can be expensive and inefficient for a business owner looking to maximize his crew. Leasing ensures that equipment stays new, and therefore, the time and money spent on maintenance can be significantly reduced.
In addition to properly maintaining equipment, businesses that purchase equipment outright are responsible for ensuring that it complies with appropriate regulations. Regularly upgrading to new equipment can alleviate the need to continuously retrofit pieces to keep pace with evolving regulations.
Resale is another issue owners constantly contend with when they own their equipment. At some point, an owner must consider selling an older machine, and determining what to do with that equipment can be daunting. Few companies have the resources to accurately price, market and resell it. Leasing allows business owners to turn the equipment in at the end of the lease period and walk away hassle-free.
Examples of how equipment leasing can improve cash management and provide flexibility:
- Contractors with seasonal work, such as those working on road construction in the northern part of the country, generally conduct most of their projects during the warmer spring and summer months. This means cash flow will be tighter in the winter. By developing a seasonal pay plan, a business owner can better manage his or her winter cash needs.
- A company chooses a three-year lease instead of purchasing a new excavator. The time value of money means that instead of paying $1 million upfront, the company will pay $850,000 over three years for the excavator, freeing up significant cash for things like payroll and unexpected expenses.
- A business has a fleet of compactors. It arranges a sale-leaseback that monetizes the equity in its fleet and simultaneously frees up capital.
- A construction company owner works with the financing company to write an early buy-out option into the lease of an aerial lift—this move will preserve capital until additional projects develop and purchasing the equipment makes more financial sense.
3. Manage Equipment Use
Companies that own equipment must also consider utilization risk. For contractors whose businesses are continuously beginning new projects and wrapping up existing ones, their equipment needs are continually changing. One way to manage this is to match the equipment lease term to the project term.
As many entrepreneurs know, it is fairly commonplace to take on projects requiring expensive and highly specialized equipment—but the cost of a month-to-month rental can be prohibitive. The option of buying new equipment for a particular project that is expected to last only two to three years is inefficient if the equipment will not be needed after that initial period. Leasing allows a builder to match the use of specific equipment with a project’s end date—and then bundle that cost into its bid.
4. Build Financial Relationships
A less obvious benefit, perhaps, is that leasing provides business owners with a way to diversify their financial relationships. By expanding from local or regional banks to financing companies and specialty lenders, businesses gain more than alternative sources of funding. They gain a trusted financial adviser and valuable ally who can suggest additional leasing scenarios that may offer improved capitalization strategies over the long term.
Construction Business Owner, March 2011