Leasing, informational asymmetries and transaction cost economics: A theoretical and empirical investigation

Other than tax based arguments, the finance literature does not provide any widely accepted rationale for the existence of a lease as a unique or necessary contract. This paper offers an alternative explanation for its existence. We demonstrate that under conditions where firms (insiders) have more information than investors (outsiders), leasing offers investors an opportunity to monitor inexpensively the actions of the better informed insiders. Furthermore, we show that the decision to use an intermediating lessor is dependent on the type of assets being leased thereby introducing the ideas of asset specificity and the transaction cost economics (TCE) literature into the decision calculus.; For many years conventional wisdom surmised that leasing and debt (leverage) enjoyed a substitution-type relationship. In other words, the more debt a firm used in its capital structure, the less likely a firm would also employ leasing as a "financing" alternative. Yet, Ang and Peterson (1984) demonstrated that the empirical evidence indicated otherwise. In fact the two authors find that their analysis suggested that leasing and debt enjoyed a complementary relationship resulting in what they term a "leasing puzzle."; We argue that the surprising results of Ang and Peterson's study do not pose an enigma but follow an organizational pattern as predicated by Williamson (1988). As an empirical test of the TCE rationale, we reexamine the substitution problem in the field of leasing, focusing on the leverage/leasing issue and using the degree of asset specificity as an explicator. A proxy variable to measure suitably the "asset specificity" for a firm's asset portfolio is used to examine its relationship with the appropriate leasing and leverage ratios. For the majority of the years studied, the coefficient in question is found to be significant and negative. However, tests of the specific hypotheses provide inconclusive support for the asset specificity based theory used to explain the complementary relationship.