Equipment Lease vs Loan: Which is the Better Choice for Biotechs?

Equipment Lease vs Loan: Which is the Better Choice for Biotechs?

The life sciences industry is highly competitive. It’s also significantly capital-intensive, which can put early-stage biotech and biopharma companies in a challenging position when it’s time to purchase new equipment. Considering how much cash or credit a young life sciences business realistically has, buying equipment is not always the most efficient means of procurement.

However, getting new equipment into the lab is essential. It allows biotechs to stay competitive and innovative in their research and development work. Biotechs often require specialized and expensive equipment to carry out their work, and having access to the latest and most advanced equipment can give them a significant advantage over their competitors.

New equipment can also help biotech companies streamline their processes, improve efficiency, and produce more accurate and reliable results. New equipment can also be essential for companies looking to expand their operations or enter new markets. For example, if a biotech company wants to develop a new drug or therapy, that might require new equipment for the necessary research and development work. Access to the right machinery and instrumentation is necessary if the company plans to pursue development opportunities.

With the right instrumentation, a company can improve its ability to grow and succeed in new areas, not only because it has the actual assets needed to develop new products or services but it also saves room in the budget for other expenses related to operational growth.

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When it comes to acquiring new equipment for your business, one of the most important decisions to make is whether to lease or take out a loan. Both options have their advantages and disadvantages—customizable payment plans; improved cash flow management—but choosing the wrong one can potentially have significant financial consequences.

Despite varying pros and cons, equipment financing options in general are continuing to gain popularity, with the Equipment Leasing and Finance Association (ELFA) reporting a 6% year-over-year increase in the industry’s new business volume in January, 2023. With this sector valued at more than $900 billion, equipment financing has become crucial in business operations.

In this article, we'll explore the key differences between equipment leases and loans to help you make an informed decision based on your business needs.

Equipment Lease Defined

An equipment lease is an agreement in which a company rents equipment from a leasing company for a set period of time. The leasing company, or lessor, retains ownership of the equipment, while the other company, or lessee, pays a monthly fee for its use. Key benefits of equipment leases include:

  • Lower upfront costs: When you lease equipment, you typically don’t have to make a large upfront payment like you would with a purchase. Instead, you make regular monthly payments over the lease term. This means that you can acquire the necessary equipment without having to tie up a significant amount of cash in a down payment.
  • Predictable payment terms: With a lease, you’ll know exactly how much your monthly payments will be, which can help you budget and plan your cash flow more effectively. This can be especially helpful for businesses with variable or seasonal revenue streams.
  • Financial flexibility: Leases can be structured in different ways to meet your specific needs. For example, you may be able to negotiate a lower monthly payment in exchange for a longer lease term, which can help to improve your cash flow.
  • Maintenance and repairs may be included in the lease: Including maintenance and repair coverage in a lease shifts the responsibility of repairs and maintenance to the lessor, making it a more attractive option for lessees. This can help businesses save money on unexpected repair costs, keep equipment running at peak performance, reduce downtime, and provide convenience.
  • Tax benefits: Depending on the lease type, you can deduct your lease payments as a business expense on your taxes. This can reduce your tax liability and free up cash that you can use for other business expenses.

All of these benefits work toward maintaining a positive cash flow. As mentioned above, when a company leases equipment, they do not have to make a large upfront payment as would be the case with a purchase. Instead, they make regular payments over the lease term, which can help to spread out the cost and reduce the impact on cash flow. 

Monthly lease payments are predictable, allowing startups to control their budget and plan their cash flow more effectively. Some leases can also offer tax benefits, reducing the business’ tax liability and freeing up cash that can be used for other expenses.

Leasing also helps with cash flow by allowing startups to preserve cash reserves for other expenses, such as hiring new employees, conducting clinical trials, or expanding their operations. This is particularly important for biotech companies requiring specialized and expensive types of equipment to perform R&D.

Leasing interest rates, also known as lease rates, can vary widely depending on various factors, including the lessee's creditworthiness, the type and value of the equipment being leased, the length of the lease term, and market conditions.

Lease rates are typically expressed as a percentage of the total value of the equipment being leased, known as the lease rate factor. The lessor uses this factor to calculate the monthly lease payment. The lease rate may also be influenced by other factors, such as the residual value of the equipment at the end of the lease term, the upfront payment or security deposit required by the lessor, and any fees or charges associated with the lease.

Equipment Lease Types

There are two main equipment lease types: operating leases and capital leases. An operating lease typically has lower monthly payments because it assumes a high residual value, meaning the equipment will have a higher value at the end of the lease term.

The payments are usually treated as an expense, are tax-deductible, and can reduce your financial obligation, providing flexibility as contracts change. This type of lease allows the business owner to own the equipment at the end of the lease term by paying a Fair Market Value (FMV) purchase price. The lessee does not treat the leased asset as if they are an owner.

A capital lease typically has higher monthly payments than an operating lease and is structured more like a loan. It also usually has a lower residual than an operating lease. The debt and its corresponding asset, including depreciation, are shown on the balance sheet, just like a traditional loan. But even though it looks like a lease, it does not have all the benefits of a traditional lease or rental agreement.

Want to a side-by-side comparison? Learn more about operating leases vs. capital leases.

Equipment Loans

An equipment loan is a type of financing agreement in which a company borrows money from a lender or finance company to purchase equipment. The borrower owns the equipment and makes monthly payments to the lender, plus interest, until the business loan is repaid. Key benefits include:

  • Ownership of the equipment: Ownership allows the borrower to own and control the equipment fully, potentially providing long-term cost savings. Additionally, owning the equipment enables the borrower to modify or sell the equipment as needed.
  • Tax deductions for interest payments: Interest payments on equipment loans can be deducted from the borrower’s taxable income, reducing the overall tax liability. This can be particularly advantageous for small or early-stage biotech companies that aren't generating much profit.
  • Flexibility: Equipment loans can be structured to meet the specific needs of biotech companies. For example, the terms of the loan can be tailored to the expected lifespan of the equipment, and the payment schedule can be designed to coincide with the company's cash flow.

Like equipment leasing, equipment loans are a popular way for companies to acquire the necessary equipment for their operations. As mentioned above, equipment loans provide financing, allow for ownership and control of the equipment, offer tax deductions for interest payments, provide access to state-of-the-art equipment, generally include flexible repayment and loan payment schedules, and help preserve capital for other essential expenses.

These benefits make equipment loans a cost-effective and flexible option for biotechs looking to acquire equipment and invest in growth.

Loan interest rates can vary depending on a host of factors, such as the borrower’s credit history, the type of equipment being financed, and the lender’s policies. In general, interest rates for equipment loans are typically lower than interest rates for unsecured loans or credit cards since the equipment itself serves as collateral for the loan.

In general, loan interest rates for equipment financing may be lower than lease rates over the long term since interest rates for loans tend to be fixed, while lease rates are subject to change depending on the lessor's costs and profit margins. However, this can entirely rely on the lender, the leasing company, your business, its current financial position, and much more.

For example, your credit score will significantly determine the loan rate and the loan term, or length of the loan. Some lenders may offer more competitive rates than others but may include less-than-ideal terms in the loan.

Lenders and finance companies may also offer promotional rates or incentives to encourage businesses to choose financing options. For example, a lender may offer a lower interest rate or reduced fees for companies with long-standing relationships with the bank or meet specific business credit criteria.

Equipment Loan Types

There are several types of equipment loans that companies can use. Some of the most common types of equipment loans include traditional term loans, SBA loans, and equipment lines of credit (LOCs).

Traditional term loans are fixed-rate loans that are repaid over a set period. The business borrows a lump sum of money to purchase the equipment and then repays the loan over the loan term.

SBA loans are offered through the Small Business Administration (SBA) specifically for purchasing equipment, which the government backs and typically have lower interest rates and longer repayment terms than traditional loans.

Equipment lines of credit are revolving lines of credit that businesses can use to purchase equipment as needed. The company only pays interest on the amount of the line of credit that they use. These can be harder to secure if your credit score is low or if you have insufficient credit history.

Lease or Loan?

Equipment leasing is good for equipment you need to use but have the option to purchase; items/technology that may become obsolete; project-specific equipment that you don’t need long-term; and equipment you expect to use for 24 to 60 months.

Leasing allows for the leased equipment to serve as the collateral; for related services can be bundled: maintenance, service, installation, etc.; for the leasing company to become administrator of equipment management, delivery, maintenance, and disposal; and for growth companies to place multiple lease contracts under one master lease agreement.

Equipment loans are good for equipment that you want to own immediately and permanently; items that are central to your core business and in constant use to generate revenue; and inventory purchases, business improvements, and capital expenditures. 

In equipment financing, the lending is based on fixed business assets that are used as collateral—this is advantageous because... Additionally, you can take immediate advantage of a tax deduction; you enable expense planning; and you receive solid credit approval because your assets are used as collateral. It’s often simpler to obtain an equipment loan than a traditional bank loan. 

Whether an equipment lease or loan is better depends on your company’s specific needs and circumstances. Both options have their advantages and disadvantages. Equipment leases can benefit businesses that need equipment for a shorter period and prefer to avoid the responsibilities and costs of ownership.

Equipment loans can be beneficial for businesses that need equipment for the long term and prefer to own and control the equipment. However, loans typically require a larger upfront payment and may have stricter credit requirements.

Consider what you can afford monthly; what your cash flow currently looks like; how strong is your credit history; your short-term and long-term equipment needs; and your main business goals when deciding between an equipment lease or loan. Consulting with a financial advisor or equipment financing specialist can also help you make the best decision.

Want a side-by-side comparison of leasing and financing? Learn more about equipment leasing vs. financing.

Parting Thoughts

Equipment leases and loans are effective financing options that offer biotech companies several advantages, the most obvious benefit being that they allow companies to purchase or lease new equipment.

Financing lab and business equipment is critical for small or early-stage biotech companies with limited financial resources. Securing a loan or a lease can often be the difference between scaling your business and falling behind your goals and milestones. Not only can financing support early-stage growth, but it also helps small businesses access state-of-the-art equipment they may not have been able to afford otherwise.

Equipment loans and leases are flexible and can generally be tailored to meet the specific needs of your business, such as payment schedules and end-of-term options. By financing equipment purchases or leases, biotech companies can conserve their capital for other important expenses, such as hiring new employees or conducting clinical trials.

Ultimately, the decision to lease or take out a loan for equipment depends on your business' specific needs and financial situation. By weighing the pros and cons of each equipment financing option, you can make an informed decision that helps your biotech succeed.

Leasing makes the most sense when you’re interested in using a piece of equipment from 24 to 60 months, know that it may become obsolete sooner rather than later, and you know its within your budget to make monthly payments towards the instrument. If that sounds like the route you should take, learn more about our leasing program.