Month In, Month Out

Capital deprivation may make more companies turn to leasing for their IT equipment needs.
Robert HertzbergDecember 1, 2008

In this era of the light balance sheet, with companies worried about access to capital and fearful of devoting capital budgets to the wrong things, the option of leasing IT equipment may become more popular. Structured properly, an IT-equipment lease can not only keep a liability off the balance sheet but make it simpler to access state-of-the-art technology and get rid of it when it’s time to upgrade.

In the aggregate, IT and office machines represent the second largest category of leased equipment (after transportation equipment), according to the Equipment Leasing and Finance Association, and while the overall volume in this sector declined slightly between 2006 and 2007, some independent lessors (IBM and Hewlett-Packard among them) report that leasing volumes are up — in HP’s case, by 15 percent in the third quarter.

The key to a successful leasing arrangement is to abide by the contract terms. If a company were to lease, say, $1 million worth of servers over a three-year period, it would end up paying slightly more for the equipment than it would have had it bought it outright — in essence, a convenience premium. But the company would enjoy the advantages of never having had to treat the equipment as a liability on its balance sheet, and of letting someone else worry about carting away and properly disposing of that gear.

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The latter is no small consideration given the ever-expanding raft of regulations that govern proper disposal of potentially toxic computer equipment. (Dan Ransdell, general manager of IBM’s Global Finance unit, says that less than one percent of the 40,000 pieces of equipment it takes back each week is processed as waste; nearly all is refurbished and resold.)

Problems come when end users don’t comply with contract terms. Perhaps the lessee has cut jobs and wants to return some of the equipment early. In that situation they may find themselves responsible for much of the remaining lease-stream. Or maybe the lease has ended and the customer, prone to bad asset-management practices, can’t locate all the equipment. In that case, the monthly payments go on or the user may be forced to buy out the contract — typically at a 20 percent premium to the original equipment cost. Such flubs are common: Gartner analyst Frances O’Brien estimates 30 percent of IT leases incur some sort of contract deviation.

Leasing companies know this, she adds, and sometimes capitalize by assigning high residual values (which result in lower monthly payments) that they know they can recoup thanks to bungling on the part of the lessee.

O’Brien says companies can help themselves be smart lessees by treating IT leasing holistically rather than as a series of one-off transactions. “Approached from a high-level perspective,” she says, “it can be a fabulous tool.”

Begin by assessing IT needs over a three- or four-year time horizon, and decide to what degree you value access to a continuing stream of new, state-of-the-art equipment, not to mention simplified disposal on the back end. Deploy IT asset-management practices (specialized software can help with this) so you know exactly what gear is where, when the lease expires, and so on. In a leasing contract, pay close attention to all end-of-lease terms, particularly onerous premiums for buying out gear.

Some companies may want to consider a “sale and leaseback,” in which the end user sells computer equipment it already owns to a lessor, which in turn leases it back to the user. This is a tactic some companies are using as they reduce the number of data centers they operate, says Irv Rothman, CEO of HP Financial Services, the company’s leasing arm. Banks became big fans of the approach this past summer, for example, but while it does give companies a short-term cash infusion, the benefit may be minor. As one leasing executive says, “Sale and leasebacks aren’t going to solve the subprime crisis, if you know what I mean.”

Robert Hertzberg is a freelance writer and editor based in Port Washington, New York.