Corporations from various industries throughout the United States are ordering new equipment at a faster pace heading into 2018. Business investment overall has been increasing largely because of the American economy, which has continued to remain healthy over the last several years. The economy grew at its fastest pace in more than two years during the third quarter of 2017, expanding at a rate of 3.2%, according to the Commerce Department.
The healthy economy, combined with the recent changes approved to corporate taxes, means that investments in various type of equipment are expected to grow. In the transportation industry, companies with private fleets such as the Sygma Network, Costco and Air Products and dedicated carriers are ordering trucks at an increased pace. The latest figures from ACT Research show that orders for Class-8 trucks surged 62% in October compared with activity from the previous month, and up 167% compared to a year ago.
According to the Equipment Leasing & Finance Association, investments in equipment and software are expected to increase 9.1% in 2018, nearly double that of 2017. Looking ahead, the 2018 Equipment Leasing & Finance U.S. Economic Outlook report expects the economy to grow at a clip of 2.7% in 2018, fueled by the acquisition of equipment such as construction machinery, railroad parts and medical equipment.
Recently approved changes to the corporate tax rate will help to further fuel this activity. Manufacturers alone are expected to save roughly $261 billion during the next decade from the Tax Cuts and Jobs Act of 2017. These savings are poised to spur additional new investments in equipment and workforce particularly.
That being said, finance professionals within these organizations involved in equipment acquisition, specifically for equipment that is advantageous to lease like tractor-trailers, must be cognizant of the new tax cuts and jobs act. The way the financial experts decide to procure this equipment can have a significant impact to their company’s overall business, bottom line and financial performance.
What are the Impending Tax Changes?
The new tax plan contains several provisions that will impact equipment procurement – lower tax rates for businesses, non-deductibility of interest expense for C corporations, limiting like-kind exchanges to real property, and expensing of depreciable assets instead of writing them off over years. The key is to know how these changes may impact a company’s balance sheet, financial plan, and tax strategy, and to adjust accordingly to help improve the company’s financial performance.
In terms of what changed, the corporate tax rate has been cut to 21% with immediate write-off for equipment. As an example, bonus depreciation is doubled to 100% and companies can write-off the full amount of qualifying purchases in the same year of acquisition, which is intended to spur investment. In addition, used equipment will qualify for bonus depreciation for the first time. Should the finance department recommend leasing these assets, companies can continue to deduct the cost of leased assets and the tax benefits inherent in tax-advantaged leases get passed along to the lessee through lower pricing. Lessees will also enjoy lower tax rates that will help them expand their business.
In many cases, a lease is still favorable over a loan for acquiring new equipment. Under the new U.S. accounting rules, customers with Operating Leases will find that the capitalized asset cost is lower compared to a loan or cash purchase. Why? Because the balance sheet presentation of an Operating Lease reflects only the present value of the rents due under the contract as the asset amount, and as a result, it is still “partially” off-balance sheet. In addition, since the cost of an Operating Lease is reported as a straight-line expense of the full lease payment each period, there is no front-end loaded P&L impact that comes from expensing depreciation and imputed interest costs as there is when a customer borrows to make an outright asset purchase. The P&L impact is different under the international accounting standards (the expenses are front-end loaded), but the result under both standards is that leasing – compared to borrowing to buy – will show a better Return on Assets (ROA), Return on Invested Capital (ROIC), or Return on Capital Employed (ROCE) for the lessee, which are measures used by many companies and equity analysts.
Moreover, consider the discounted cost and built-in flexibility of financing, which offer additional savings, extended payment options and equipment upgrades or add-ons. Improved cash-flow management, keeping pace with technology and aligning capital asset acquisition strategy with business needs in real time all create economic and practical advantages compared to a loan.
Procurement Strategies Remain Critically Important
No matter what industry, finance and procurement must still pay close attention to the way in which they acquire new assets, especially under the changing tax environment. For example, in the transportation arena, many organizations have begun to lease more of their trucks, whereby a shorter asset management lifecycle helps reduce costs significantly. Everything from lower fuel costs, maintenance and repair, and disposal costs are reduced in a leasing environment, while the residual risk is minimized.
Companies are taking an even closer look now at how certain equipment lease structures impact their overall financial performance. Knowing the intricacies of different types of leases (operating vs. capital, for example) can help achieve better key performance financial metrics significantly.
The Bottom Line
Whether through economic expansion forthcoming by the tax cuts or a desire to replace aging equipment, more finance professionals are taking a closer look when making decisions on new equipment procurement. Decisions such as lease versus purchase, the type of lease, as well as changing tax implications can all have consequential effects to an organization’s bottom line.