Operating vs. Finance Leasing

I have a question regarding example 10 in the CFA book (page 81 in the printed version), which has to do with operating vs. capital (finance) leasing. In the example, they provide three options:

  1. Buy the equipment and finance the purchase with new debt

  2. Lease the equipment under an operating lease

  3. Lease the equipment under a capital (finance) lease

In the example, there is absolutely no difference between Options 1 and 3 in any of the financial statement impacts or the financial ratios. Can someone tell me if this is always the case and if not, what circumstances would cause the two options to have a different impact in the financial statements? If there actually is never any difference in the two, then what might cause a company to choose one over the other?

The important thing to remember here is that according to tbe FASB when you do #3 you are really doing #1, thus the accounting should be the same. The substance of the transactions is the same, or so goes the thinking. As for why do one over another, I suppose it would depend on the particulars of the deal. I can easily imagine circumstances where there are minor differences in accounting between #1 and #3. For example, under #3 if pv of payments is 90%, then that’s what you capitalize. Under an actual purchase, it would be 100%. #3 also requires choosing a discount rate. In #1 the rate would likely be the rate on the note/loan. In theory they are the same, in practuce maybe not. Leaee accounting is a somewhat interesting area of accounting, and contentious, at least in the US.

Thanks, 40yoCFAcandidate - it’s pretty contentious here in Canada too (especially for governments), thus my interest in the question.

A capital lease is nothing more nor less than buying on credit.

Assuming that you can get the same interest rate from the leasing company as you can from your bank, they’re identical. (Caveat: I’m also assuming that the salvage value is the same.)