Abstract

The oil business works off of borrowed money, some of it disguised to look like operating costs -- leases for example. Though the rules are by no means clear, sometimes the proper economic treatment requires placing a capital equivalent of the commitment at the time of signing. The procedure can significantly change the project rate of return.

Introduction

Now and then, someone comes in and announces that he has discovered the business man's equivalent to the Fountain of Youth -- a corporate money tree. The person will instruct us that his pet project (PP) need not compete for cash in the budgeting process because he has found a benefactor, Mr. S. Claus, willing to put up the money at no cost save some "small monthly payments" to be worked out later. These payments should come from PP's profits and thus represent no real drain on the company.

To be sure, we seldom see requests as blatant as portrayed above, but we nevertheless sense some misunderstandings about how to evaluate projects that have alternatives to outright purchase of goods and equipment. Has the old maxim prohibiting free lunches somehow been set aside with regard to so called creative financing? No, more likely the lunch costs more than normal, but we're not always sure who pays.

We want to examine some of the more popular financing methods to see if we can determine who owes what to whom, at least to the extent we can work our way through the somewhat arbitrary practices of the financial community. We would like to contribute to this debate and get others to join in so that we can all become better educated.

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