Abstract
Using trend regression analysis, we demonstrate the remarkable increase in operating (off-balance-sheet) lease financing and simultaneous decrease in use of capital (onbalance-sheet) leases over the last 27 years. This trend is consistent with the contentions of regulators and popular press that firms are intentionally structuring leases to qualify for off-balance-sheet accounting treatment. We include a proxy for the unobserved benefits of the off-balance-sheet accounting treatment as an additional explanatory variable in a traditional capital structure model and find a significantly negative relationship: as unexplained operating lease activity increases, conventional debt ratios decrease. Our results suggest lower conventional leverage ratios may underestimate the financial risk of such firms as these lower debt ratios may be associated with higher unexplained off-balance-sheet financing. Finally, we report evidence that the determinants of the mix of on- versus off-balance sheet lease activity is changing over time. Our results should be of interest to a host of market participants as the US considers changes in the off-balance-sheet accounting treatment of lease financing.
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