Purchasing or leasing? Equipment upgrades for a capital-constrained manufacturer.

Abstract

Purchasing and leasing are two main methods to implement equipment upgrades, which can reduce production costs and facilitate manufacturing transformation. In practice, small and medium-sized manufacturers have insufficient cash to balance equipment upgrades and daily production. Under a two-stage setting, this study examines a pull supply chain consisting of a capital-constrained manufacturer and a retailer, where the manufacturer can borrow bank loans. In the investment stage, the manufacturer chooses among the non-upgrading mode, purchasing mode, and leasing mode. In the following production stage, the manufacturer produces to satisfy the uncertain demand through a retailer. The results show that the preference of the three modes depends on the cost reduction coefficient, residual value of upgraded equipment, and revenue of moral hazard events. Due to increased liquidity risk, the manufacturer upgrades equipment by purchasing only when the residual value of upgraded equipment is relatively large. However, the manufacturer upgrades equipment by leasing even when the moral hazard events induce a penalty since leasing eliminates the liquidity risk over the investment stage. Simultaneously, there exists a cost reduction trap where the production's marginal profit is seized by the reduced wholesale price, and the manufacturer upgrades equipment only when the cost reduction coefficient is medium. For the environment, equipment upgrades do not always benefit the environment. If the cost reduction coefficient is relatively large, the increased production quantity offsets the unit emission reduction, leading to larger total emissions. To ensure a "win-win" situation for the manufacturer and environment, the leasing mode should be adopted when the turn-over times and transportation impact of returning equipment are controlled, since the agent friction effect is weaker. Given the potential frequent turn-over times of leasing, the purchasing mode should be adopted when the reduced environmental impact of equipment upgrades is relatively large.