Finance Column: Your Balance Sheet

I have to admit when Canadian Metalworking offered me the opportunity to write a monthly column I wasn’t sure I could get through the year. However, the year has flown by, and I thought it would be relevant to talk about year-end purchases and how they can be handled on a company’s financial statements.

Having spent almost two decades in the machinery industry, I can tell you the calendar year generally starts off slowly, and is quiet in terms of purchasing financing. As a general rule, most companies tend to put off purchases until the fall; usually because they want to see how the year goes before making a big commitment, or they’ve been too busy to spend the time necessary to research and source the right piece of equipment. But at this point, they’re under pressure to get it done because budgeted money needs to be spent or it will be lost going forward, or there are financial reasons to get a purchase “on the books” before the year end.

In a good market, and particularly during an IMTS year, there’s normally quite a bit of available inventory. Machinery manufacturers will have had booths full of stock machines that are now “demos” which distributors will have access to.

It’s a good time to get a great deal on a stock or demo machine because sellers want to move the equipment before the January lull. If the equipment is in stock anywhere in North America it can normally be delivered and invoiced in a matter of days or a few weeks, so getting the purchase in the current year is fairly easy.

But there are times when a machine may need to come from another part of the world. In these cases, getting it on a buyer’s floor by the end of the year could be challenging. Even if the machine is sitting crated on a factory floor in the Far East, it will still take about 30 days to get to Canada. Travel time should be taken into account when trying to get a piece of equipment delivered before your financial year-end.

When a piece of equipment is bought outright, the buyer will take on ownership, meaning the equipment will become an asset on their balance sheet. A standard company balance sheet has three parts: assets, liabilities and ownership equity. The difference between the assets and the liabilities is known as equity, or the net worth of the company.

From a taxation perspective, the benefits of ownership allow the company to depreciate the asset, which is a fancy way of reducing earnings and in turn, pay less taxes. But if the purchase happens near the end of the financial year, the tax savings become minimized because the full year’s depreciation can’t be taken.

A preferred method to handle the transaction is an operating lease.

Accountants classify equipment leases into two main categories: capital leases and operating leases.

Capital leases are treated in a fashion similar to the outright purchase of the equipment (or bank loan).

An operating lease is a contract that allows for the use of an asset but doesn’t convey rights of ownership. In fact, the leasor maintains ownership.

The equipment isn’t put on the books as an asset but instead accounted for as a rental expense in what is known as “off balance sheet financing.”

Operating leases have tax incentives as well, but don’t result in assets or liabilities recorded on the balance sheet. From a financial perspective, and due to the nature of the asset, the company’s efficiency will improve dramatically since new income-generating equipment has been installed, allowing the company to return more sales and boost profits.

Another ancillary benefit of the lease—capital or operating—is how GST or HST are handled. Even though most businesses get all GST or HST they’ve paid out back at some point, when equipment is purchased, or if the funds are borrowed from a bank, the federal and provincial taxes are either paid in cash or must be borrowed as well (and the interest paid).

When the equipment is leased it’s the leasing company that pays the taxes in full up front because it’s the entity taking ownership. The lessee pays tax on each payment, so there’s a positive impact on a company’s cash-flow.

I realize I have covered a lot of territory but if you take one thing away from this column it’s the suggestion to look beyond the dollars and cents of an equipment purchase and ensure you talk to your accountant or auditor before finalizing. This will allow you to strategize how best to handle it from a financial perspective.

As the certified experts in this area, they’re in the best position to give you sound business advice.

Lastly, if you’ve been reading this space all year, I hope you’ve enjoyed reading as much as I’ve enjoyed writing.

Ken Hurwitz is the Senior Account Manager with Blue Chip Leasing Corporation, an equipment finance company in Toronto. Ken has years of experience in the machine tool industry and now works to help all types of manufacturers either source or tap into their own capital to optimize their operations. Contact Ken at (416) 614-5878 or via email at ken@bluechipleasing.com. Learn more at www.bluechipleasing.com.