Leasing

1. Leasing • Lessor • Purchases the asset to lease out • If lessor borrows funds to purchase the asset, it is a leveraged lease. • Owns the asset until the expiration of the lease • Needs to evaluate whether the proposed lease payments provide a satisfactory return on the capital invested in the leased asset

2. Leasing • Lessee • Does not own the asset until the expiration of the lease, at which time lessee often has the option to purchase the asset at its residual value. • Needs to evaluate whether the lease is less costly than purchasing the asset. Note: leasing versus financing the asset should not affect the capital budgeting decision to acquire the asset • Compares cost of lease financing to cost of debt financing

3. Tax Considerations for Leasing • Depreciation of the asset is tax deductible for the owner • The faster the asset can be depreciated, the greater the tax advantage of ownership • Leasing costs incurred by lessee can be recorded as a corporate line item expense, thereby decreasing reported profits and tax liabilities

4. Vehicle Leasing • Very popular for both large corporations and professional individuals in 21st century: • Allows person to drive more expensive car than would be otherwise possible • Lessor is often responsible for maintenance expenses • Convenient disposal of used vehicles • Sometimes easier to obtain lease financing at a lower cost than debt financing especially if lessee is considered a higher risk

5. National Leasing: Your Assignment • Refer to the National Leasing, Inc. case posted in Blackboard’s Course Document section • Refer also to the text excerpt on Leasing and the Wall Street Journal article on Toyota posted in Blackboard • Management at NLI would like to know how best to set residual values on automobile leases. • Can a modeling approach help?

6. National Leasing: Framing the problem • Model a portfolio of leases or a single lease? • How to model market share? • How to model consumer behavior at lease end? • Include uncertainty or not? If so, how?