Ultimately, a company's approach to real estate will depend on two issues, asserts Koster. One is a company's financial condition. Until recently, for example, Lucent and Nortel Networks preferred to own their real estate. "They were among those companies that believed that was the only way of being sure you have complete control of your home," says Koster. Yet after falling on hard times, both of these companies have chosen to sell some of their major operating facilities and lease them back.
The other issue is the type of asset involved, says Koster. As A&P's Goldstein puts it, the question here is, "How well does it hold its value?"
Both concerns seem a lot more pressing today than they did only a year ago.
Lease or Buy?
Real estate finance alternatives.
Source: Staubach Financial Services
| Ownership | Traditional Real Estate Lease | Long-term Credit Lease | Synthetic Lease | |
| Financing | Funded through corporate capital | Arranged for by purchaser Debt provided by a traditional real estate mortgage lender or pension fund Typically 75% debt and 25% capital | Bond markets utilized such as CMBS or private payments Pricing primarily based on corporate credit of lessee | Bank debt Interest-only payments with balloon at end of term Pricing based on corporate credit of lessee |
| Terms | Permanent | 8- to 25-year lease | 15- to 25-year lease | 3- to 7-year financing |
| Accounting Treatment | Asset and liability on balance sheet | Operating lease treatment Rent expense | Operating lease treatment Rent expense | Operating lease treatment Rent expense |
| Tax | Rent expense deduction | Rent expense deduction | Treated as owned asset Depreciation and interest deduction |
On or Off?
The conundrum of what off-balance-sheet treatment of assets and liabilities is worth comes quickly to the fore when discussing the merits of synthetic leases.
High-performance-computing company Silicon Graphics Inc., for instance, dismisses the importance of such treatment now that it has unwound a synthetic lease on its Mountain View, California, headquarters campus in favor of a sale-leaseback, the liability for which still needn't be put on its balance sheet. For the most part, credit analysts ignored the off-balance-sheet treatment of such financing, says a spokeswoman. The same holds true at Chiron Corp., which is about to do a second synthetic lease, according to treasurer Jim Kent. "Balance-sheet treatment is not at all a key factor," he says.
But consultants say off-balance-sheet treatment is a big reason companies opt to finance such real estate through synthetic leases. The biggest accounting advantage of any kind of lease over outright ownership lies in not having to write off depreciation of the asset against earnings. Granted, many analysts consider such a boost from a synthetic lease to be artificial (since companies effectively own the asset) and will strip it out of their estimates. But James Koster, a managing director of Staubach Financial Services in Dallas, says companies "still get some value for it," while Mitchell Goldstein, treasurer and senior vice president of finance at A&P, insists the value is largely ephemeral or, as he puts it, "a bit of optics."
In any case, such treatment isn't automatic under U.S. GAAP. In fact, Statement of Financial Accounting Standards No. 13 requires that a lease fail all of the following four tests to be treated as an operating lease instead of a capital lease, and thus qualify for off-balance-sheet treatment:
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