Companies require fixed assets like plant and machinery, land and building, furniture and fixtures, computer systems, commercial vehicles, etc. in order to carry out their day to day business activities. Generally, two options are available to a company in respect of acquisition of fixed assets.
One option is to purchase the fixed asset. Another option is to obtain fixed asset on lease or rent. It is necessary for every company to perform a cost benefit analysis before taking a decision on the option to be used for the acquisition (purchase or lease) of fixed asset.
Advantages Of Leasing Versus Purchasing
Less Financial Requirements
One of the main advantages associated with leasing is that less amount of money is required (down payment or security deposit) at the time of obtaining the asset. On the other hand, in case of purchase of fixed asset, a company may be required to arrange significant amount of money in order to make the lump sum payment for the acquisition of fixed asset.
A lease agreement generally covers a fixed period of time. After expiry of the lease period, a company has the option to renew the lease or return the asset to the actual owner. In case of purchase of fixed asset, a company will prefer to use the asset till the end of its useful life. Further, a company may have to dispose off the asset at the end of the useful life of the asset.
Reduced Repair And Maintenance Costs
In case of lease, repair and maintenance services in respect of the fixed asset are generally provided by the lessor as per the terms and conditions of the lease agreement. In case of purchase, a company may have to incur repair and maintenance costs in respect of the fixed asset after the expiry of the warranty period or service contract with the vendor.
Disadvantages Of Leasing Versus Purchasing
Ownership of fixed asset is one of the disadvantages associated with the leasing option. However, it is important to note that as per the terms of the contract with the lessor/vendor, a company may have the option to acquire the asset at the end of the lease period.
Under leasing option, company is required to pay a periodical (monthly, quarterly or annual) installment to the vendor company in order to utilize the fixed asset. Installments are liabilities required to be paid irrespective of the level of income earned by the company.
No Modification To The Asset
Under leasing option, lessee may not be allowed to make any modification to the fixed asset to meet its own specific business requirements. It may be necessary to obtain a prior approval from the lessor before any modification to the fixed asset can be undertaken by the lessee.
In case of a lease, a company may be required to compensate the lessor (in the form of fees/penalties) for an early termination of the lease contract. In case of purchase, ownership of the asset remains with the company. Therefore, a company may not have to incur any kind of additional fees or penalties on an early disposal of the fixed asset.