What’s the difference between a capital lease and an operating lease?

A capital lease is like buying the asset with debt. You pay interest and principal repayments. These payments are below EBITDA, meaning they are not treated as operating expenses (OPEX), but rather as costs and outflows related to financing. The asset would be effectively owned, so you will also incur a depreciation expense over time as the asset depreciates over time,

Usually, a capital lease will occur if you are leasing the asset for the great majority of its useful life. For example, if you are leasing a car for 10 years, you are leasing it for most of its usfeul life, as cars do not operate in good condition for much more than 10 years. Therefore, it would be classified as a capital lease and you would effectively own the car.

An operating lease is like renting the asset, so you pay rent expense. This expense would be included in EBITDA, because rent expense is part of operating expenses.

A lease is classified as an operating lease if you are not leasing it for most of its useful life, and are effectively just renting it. For example, if you leased a car for only 2 years, you would just be renting it, and not effectively owning it. Therefore, the lease payments on the car would be classified as rent expense, and would be part of operating expenses (OPEX).