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Are Debt and Leases Substitutes?

Published online by Cambridge University Press:  06 April 2009

Craig M. Lewis  and
James S. Schallheim
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Abstract

Lease valuation models often begin with the assumption that leases and debt are substitutes. This paper demonstrates that, because leasing is a mechanism for selling excess tax deductions, it can motivate the lessee firm to increase the proportion of debt in its capital structure relative to an otherwise identical firm that does not use leasing. Thus, debt and leases can be complements. We also show that a competitive lessor will use diversification to reduce risk and increase the probability that tax deductions are fully utilized so that it can lower lease payments.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , Volume 27 , Issue 4 , December 1992 , pp. 497 - 511
Copyright
Copyright © School of Business Administration, University of Washington 1992

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