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A difficult early decision that new business owners have to make is whether to buy or lease the equipment they need.
Both options have their pros and cons, and sadly there is no one size fits all answer to which option is better.
With this in mind, here are 7 questions to ask yourself in order to determine which option suits your business best.
1) How much capital do I have?
This is the most important factor to consider when weighing up how to best finance new equipment.
Quite simply, if buying your desired equipment puts a significant dent in your overall business budget, then leasing is likely to be the better option.
But what is meant by a significant dent?
Well ask yourself this:
How far will the loss of capital incurred from buying the equipment outright lead to compromises in other areas of my business?
If you are in the early stages of developing your business, you want to be focussed on customer acquisition.
The foundations of customer acquisition are:
Sales;
Marketing;
Providing an excellent customer experience;
Compromises to these three facets of your business should be avoided at all costs, especially while it is still in its infancy.
Therefore if the capital required to purchase or put a down payment for equipment eats into your budget for customer acquisition, leasing may well be a better option.
Although owning equipment may save you money once you’re up and running, this means little if you can’t get the customers and initial cash flow required to get things off the ground.
Quick rule of thumb: You should lease equipment if buying it outright eats into capital reserved for customer acquisition. Only buy what you can afford without sacrificing early revenue wins.
2) How important is having THE BEST equipment to my bottom line?
A major advantage of leasing is that it allows you to get a hold of equipment that you otherwise could not afford.
In general (though not always), the overall cost of leasing is higher than purchasing outright (through the help of an equipment loan or otherwise).
You therefore need to weigh up if having that top of the line piece of equipment is worth paying that little bit extra for.
When acquiring new equipment, you should always be asking yourself the following questions:
What specific functionalities of this equipment am I going to be using?
What commercial benefits will I reap from it?
In what ways is it better than what I already have/I can afford outright?
Answering these questions specifically and in detail should help illuminate whether you need to have the newest, most functionality-laden version of whatever you need.
To justify the extra money required to lease certain equipment, it should be crystal clear exactly how that equipment can increase your bottom line over all alternative options.
Usually the benefits of new equipment falls into four broad categories:
Increasing your capacity to fulfil services (think more office equipment for new employees).
Increasing the quality of service that you provide (think medical scanners which process images faster)
Allowing you to add additional, high-ticket services, to your business offering (think the new installation of a full length pool in a gym)
Streamlining and automating time-consuming processes (anything which allows you to work faster and with less cost and effort).
In short, equipment should not be purchased just because you feel that you should have it.
Rather you should work out what your commercial benefits of that equipment are, what functionalities you need to reap that benefit, and whether the state of the art piece of equipment is the only option available with those functionalities.
Quick rule of thumb: If you’re leasing in order to obtain the state of the art equipment you should be able to justify, with extreme detail and clarity, exactly how that specific model will benefit you above all alternatives.
3) How do I want to manage the maintenance of the equipment?
Finances aside, one of the biggest differences between owning and leasing equipment revolves around who has responsibility for the maintenance of the equipment in question.
In general, when you own your equipment, it is up to you resolve any faults.
Alternatively, when leasing certain equipment, the lessor can sometimes be is usually takes responsibility for its maintenance.
Although it may initially sound appealing for a third party to take care of the maintenance of your equipment (and its associated costs), having that extra control can come in very handy if the equipment in question is central to everything that your business does.
Each lease agreement will have its own terms regarding the promptness in which faults are fixed; however, ultimately no-one cares about your business as much as you do.
Therefore if the equipment in question were something that your business absolutely cannot function without, then perhaps ownership would be better than leasing.
Of course, you can have a contingency plan for the maintenance of leased equipment in emergencies, however this will often see you paying twice for maintenance.
Therefore, if such maintenance fees are particularly high it may be another reason to seek out an ownership agreement, even if a loan is needed to facilitate this.
Easy rule of thumb: You should try to own equipment that, without it, your whole business would come to a standstill. Leasing may be more suitable for more specialist equipment.
4) How often will your equipment become outdated?
It is no coincidence that the rise in popularity of leasing equipment has coincided with the increased rate of technological innovation.
Leasing equipment gives you much more flexibility when it comes to replacing the equipment in question. Quite simply, as you do not own the equipment you are not tied down to it when the time comes for its replacement.
In general, you pay a bit extra for this flexibility.
Even if you take out a loan to purchase equipment, in general the extra interest that you pay back on the loan still amounts to less than the cost of leasing the equipment over the same period of time.
However if regularly upgrading your equipment is fundamental to your overall business goals, then leasing those pieces of equipment may well work out cheaper than buying.
If you have a strong understanding of the life cycle of your equipment, both in terms of its propensity for wear-and-tear and the competitive advances of embracing innovation, you can take out strategic leases to only pay for equipment for as long as it is useful to you.
With this information to hand, you can make a far more informed decisions as to whether it would be cheaper to buy or lease certain pieces of equipment.
Quick rule of thumb: Plan how long you will need the equipment in question for, taking into consideration the rate of innovation and wear-and-tear, and work out the costs of leasing vs buying from there.
5) Will I want to modify or replace the equipment when it gets to the end of its lifespan?
Whether through wear or tear, or technological advancements, hard assets tend not to have an infinite lifespan.
Eventually, you will have to upgrade the equipment in your business.
Whether you own or lease the equipment affects the options available to you with regards to how it is upgraded.
This point is particularly pressing for equipment that is best upgraded through modification rather than full on replacement.
There are some instances where it is cheaper and easier to simply upgrade aspects of existing equipment rather than replace it outright.
An obvious example of this is with computers.
According to commercial IT suppliers Crucial, 78% of IT managers prefer to update existing hardware rather than replace it entirely, with cost-effectiveness being the main reason behind their decision.
When leasing equipment, this type of upgrading through modification is not always possible. The lessor still owns the equipment and it is up to the terms of the leasing agreement whether such modifications are allowed.
Furthermore, if you understand the equipment that you are acquiring inside out, owning it will allow you the flexibility to make bespoke changes to the equipment that leasing may not.
If the equipment in question is more suited to upgrading through replacement than modification, leasing may be the better option, particularly if staying on top of innovation is crucial to your business’s success.
Quick rule of thumb: If your equipment is best upgraded through modifying and updating what you already have, purchasing is likely to be the better option. If equipment needs to be replaced then leasing may be superior. However this also depends on how often your equipment needs to be upgraded.
6) What are the tax implications of your lease or purchase?
Leased and owned equipment are taxed differently.
As leasing costs are 100% tax deductible as an operating expense, leasing equipment is often marketed as a more tax efficient method of getting the equipment your business needs than purchasing it outright.
Although in many cases this is true, the reality is more complex than simply one being a better option than the other in every situation.
Each situation is different and can depend on the type of equipment acquired, the length of the lease, and the wider financial situation of your business.
The wider point is that you need to know your numbers when comparing the costs of leasing vs purchasing.
The different ways that these types of procurement are taxed will affect these overall costs, often significantly so.
Getting the help of a tax professional, such as an accountant, may be a smart investment to help you forecast the potential costs of any leasing or purchasing agreements.
Quick rule of thumb: Leased and owned equipment is taxed differently. Do not neglect this fact when working out overall costs. Get a tax professional to help you if necessary.
7) Am I more interested in growth or profitability?
Whether you lease or own your equipment can affect your business’s capacity for growth and profitability.
Growth refers to increasing the amount of money coming in to your business. Its achieved by either gaining new customers, or through raising your prices without churn.
Leasing gives you the perfect tools for growth, namely top class facilities and freed up capital.
It is therefore likely to be suitable for younger businesses and owners who are willing to sacrifice short-term profit for long-term growth.
Owning equipment will lower your operating costs and will allow you to build up the overall value of your business through the acquisition of hard assets.
This should appeal to those who do not necessarily want the added stress that comes with growth but who want to maximise the profit on what they have already built.
Owning your equipment also makes your business much more attractive to potential buyers.
This is particularly true if the assets in question are not going to lose their value rapidly or need replacing anytime soon.
Businesses approaching maturity may therefore benefit more from buying equipment outright in order to lower costs and increase their appeal to buyers.
Such business owners are also more likely to have the capital necessary to make these purchases, or solid credit history to take out the loans to do so.
Quick rule of thumb: Leasing may be more suitable if your focus as a business owner is on growing revenue, owning equipment is more suitable if you want to increase the overall value of your business.
To summarise:
There is no hard and fast rule to whether leasing or buying equipment is a superior option.
Each avenue has their benefits and drawbacks.
Leasing gives you access to top of the line equipment without sacrificing large chunks of capital or the freedom upgrade when you see fit.
It's therefore likely to be suitable for younger businesses for whom the focus is growth and businesses for which embracing innovation is central to their success.
Ownership usually has a cheaper overall cost, allows you to build your portfolio of hard assets and gives you total control as to how equipment is used and maintained.
Businesses looking to increase profit margins or who are getting ready to sell may better benefit from owning their equipment.
The equipment in question, and your use for it, should also affect how you fund it.
If the equipment is absolutely central to your business, and does not require frequent replacing, then it makes more sense to buy it outright.
Leasing is more suitable for specialist technological investments that have shorter life cycles, and for which a short wait for third party maintenance won’t bring your whole business to a standstill.