4
$\begingroup$

About two or three years ago I attended a talk by a consulting statistician, one of whose clients was a company in the business of leasing out intermodal shipping containers. He said those who are in the business of using those containers to transport goods typically do not own the containers, but pay a company such as his client for their use. They pay rent periodically forever and don't normally ever return the containers to the permanent owner.

My question is: Why is it done that way? Why not buy the containers if you're going to use them for as long as you're in business?

(The occasion for the speaker's experience of this phenomenon was that Congress passed a bill granting tax deductions to companies whose containers are used in U.S. commerce rather than being used only, for example, to carry things back and forth between South Africa and Australia, etc. Companies could not claim the tax deduction unless they had records indicating how many of their containers were used in U.S. commerce, and they had no records at all of where their containers had been because they hadn't expected Congress to pass such a measure. Trying to get the information about where each container had been was far more expensive than what they'd save in taxes, and in many, maybe most, cases, the shipping companies didn't have the information at all. So the consulting statistician and a colleague came up with a theory: For tax purposes, intermodal shipping containers are fungible. They didn't need to know which containers had been where, but only how many with the company's logo had entered and left the U.S. It turned out that information could be acquired inexpensively from port authorities. The company argued that that would underestimate the number of the company's containers used in U.S. commerce, since, for example, ships that transport wool from Australia to China to be made into sweaters to be sold in the U.S. were engaged in U.S. commerce when the retailer in the U.S. paid for the transportation. The IRS accepted the fungibility theory and allowed the deduction.)

$\endgroup$
3
$\begingroup$

First, it appears there are historical reasons: it was the initiative of the producers to standardize the way their goods were transported, already from the factory. And it involved transportation by rail initially, rather than ship. See interesting information here.

Second, I see an economic rationale: overseas commerce is rather volatile, especially at individual-shipping-company level. In such a situation, it would be difficult for each individual shipping company to optimize the number of containers owned. But if there are companies that lease out containers to all the shipping industry, fluctuations dampen and overall capacity is more easily optimized.

Another approach can be found here, where on the subject the authors write

“Own or lease?” The question has long lain at the heart of container-shipping strategy. From our analysis, the industry typically relies too much on leasing. While leasing may be the only option for many cash-strapped liners that already have substantial debt, other lines should take advantage of this by owning more of their fleet. Leasing does provide a little more flexibility to change vessel deployment. But that breathing room often comes at too high a price.

The "substantial debt" usually comes from building/buying new ships.

$\endgroup$
1
$\begingroup$

In addition to the answer provided by Papadopoulos, it is helpfull to consider, why leasing exists at all in general. It turns out that there can be plenty of reasons for the existence of lessors (companies that own the assets and provide the leasing arrangements), as well as reasons for the lessee (companies that are seeking the use of assets).

First, there are finance and operating leases. Some of the leases can classified to be synthetic. The synthetic lease refers to a situation where a company will have tax benefits of ownership while it is not required the asset to be shown in the financial statements of the company. Continuing, in quite many countries and in the U.S. the financial reporting standards differ from reporting under tax regulations. This means that a company may own an asset for tax purposes by obtaining deductions for depreciation expensies. Finance lease practically means that lessee buys an asset and lessor gives finance directly. Operating lease is like rental, usually for a period of time.

Loosely speaking, US Gaap and IFRS are quite similar to recognize an arrangement as finance lease: if risks and rewards are transferred to the lessee, it becomes a leased asset and will be shown on the balance as leased asset and lease obligation. This is also the reason, why many companies prefer operating leases (but sometimes it is not possible to choose and finance leases tend to show stronger operating cash flows). US Gaap criteria actually leave some room to companies to structure their leasing arrangements so that practically they can choose between operating and finance lease.

  1. Cheaper or "easier" financing: often little or no down payment, and later at fixed interest rates

  2. Less restrictive conditions (e.g. some loans may have covenants on financial ratios, and it can be practically impossible to get new loans to buy more assets, while leasing arrangement may not affect the covenants)

  3. Lessee may want manage their financial ratios like profitability, solvency (levarage), efficiency or liquidity ratios.

  4. Risk of obsolence, residual value and disposition of an asset

  5. Tax benefits

  6. Competitive edge (e.g. by scale, and maybe a part of answer of Papadopoulus refers to this: there are parties that are better equipped with regards to containers to changing economic conditions)

Which cases of the above list are directly related to container leases? (I cannot answer that directly and would need some further studying of the topic. E.g. are containers assets that do depriciate?)

$\endgroup$
  • $\begingroup$ Your first reason seems to require considerable specificity that is not there. I have no idea what tax benefits you are referring to. And in order that economies of scale exist, the leasing company would have to be actually doing something, not just collecting rent on shipping containers. Your second reason seems to apply to leasing companies but doesn't explain why shippers would want to do business with leasing companies rather than owning their own containers. $\endgroup$ – Michael Hardy Oct 3 '16 at 17:16
  • $\begingroup$ I'll check my wording in the 2nd case: I mean the party that does not own the containers, that is, the shippers. Very shortly: the leasing arrangement will be shown in their balance sheet and affects, how the profits and costs are recognized in the books etc. By (heavy) leasing you need (much) less capital to run the company. For the 1st case, I'll try to find a clear example (it was written "from memory" and is based on some analyst book or studying material). I'll suspect that the example will be tied to accounting as well. $\endgroup$ – Gspia Oct 4 '16 at 13:35
  • $\begingroup$ @MichaelHardy I edited the answer & hope that it is better now. I think that by taking a look of couple of financial reports of companies that do container leasing, it may reveal which of the cases in the list do apply. (Right now I have no time but I'll try to come back to this later.) $\endgroup$ – Gspia Oct 5 '16 at 14:31

Your Answer

By clicking “Post Your Answer”, you agree to our terms of service, privacy policy and cookie policy

Not the answer you're looking for? Browse other questions tagged or ask your own question.