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LEASING

Methods of acquiring a fixed


asset
Outright Purchase
Unsecured Loan
Mortgage of Asset
Rent
Financial Lease
Operating Lease
Hire Purchase

LEASING
A transaction in which owner of the
asset (lessor) provides the asset for use
to another (lessee) for a certain period
of time for consideration in periodic
payments (Rentals), with or without
down payment.

Types of Lease
Financial
Operating
Leveraged
Sale
Full

& Leaseback

Payout

Specialized

Service

Sales

Aid

Small

Ticket/ Big Ticket

Cross

Border Lease

Financial vs Operating Lease


Feature
Asset selection
Rewards of
Ownership
Obsolescence
Contract
Useful life of
asset
Operating costs
Associated
service
Cost of asset

Financial
Lease
Lessee
Lessee

Operating Lease

Lessee
Non cancellable
Covered with
single lessee
Not covered
Not covered

Lessor
Cancellable
Not covered with
a single lessee
Covered
Covered

Full payout

Non payout

Lessor
Lessor

Qualitative Advantages to
Lessee

Frees funds for working capital


rather than capital outlays
Cost effective
Flexibility
Increases borrowing capacity of the
lessee
Off-balance sheet mode of finance
Postpones taxes
Avoids restrictive covenants in loan
agreements

Qualitative Advantages to
Lessee
Hedging

against obsolescence

Operating

Lease provides

Convenience of use
Long

term finance without loss of

ownership & control


Piece

meal acquisition possible

Advantages to Lessor
To Manufacturer Lessor
i)

Stabilized rate of growth

ii)

Sale of ancillaries & parts

iii)

Control over second-hand


market

iv)

Specialized services

General Advantages
i)

Collateral security

ii)

Tax planning

iii)

More profitable

iv)

High growth potential

v)

Lesser regulation

LEASE EVALUATION
By Lessee
Non-Quantitative
Subjective/ Strategic considerations

Quantitative
Analytical approach
Assess cash inflows with timing
Assess cash outflows with timing
Determine net cash flows with timing
Establish decision making rule
Apply capital budgeting techniques

Lease Evaluation by
Lessee
Lessees outflows:
1.

Lease rentals

2.

Initial deposit

3.

Additional deposit with/ without


interest

Lease Evaluation by
Lessee
Lessees inflows:
1.

Tax saved on rentals

2.

Tax saved on depreciation

3.

Tax saved on financing cost

Lease Evaluation by
Lessor
Lessors inflows:
1.

Lease rentals

2.

Initial deposit

3.

Salvage value

4.

Tax benefits

Lease Evaluation by
Lessor
Lessors outflows:
1.

Outflow for purchase of asset

2.

Financing costs

3.

Administrative expenses

4.

Tax outflows on rentals

Lease Evaluation- Lessee and


Lessor
Assess cash inflows with
timing
Assess

cash outflows with

timing
Determine

timing

net cash flows with

Evaluation
Akshay plans to acquire equipment, with a 5-year straight line
depreciation at a cost of Rs10 Lacs (delivery and installation
included). Akshay can borrow Rs10 Lacs at 10%, interest with
lump sum repayment after 5 years.
Alternatively, Akshay can lease the equipment for five years at a
rental charge of Rs2.60 Lacs per year, at the beginning of the
year. The equipment, when used, will have an estimated net
salvage value of Rs2 Lacs. If Akshay buys, it will own the
equipment at the end of five years. If Akshay leases, it will not
exercise the option to buy the equipment. The lease includes
maintenance service, whereas if bought, the equipment would
require maintenance provided by a service contract for Rs500,000
per year, at the end of the year.
Akshay 's tax rate is 35%. Evaluate lease or buy choice for Akshay.
Lease evaluation.xlsx

Lease Rental quote by Lessor


Fairdeal Leasing is in the business of providing
automobiles on operating lease to corporate
clients.
As Lease officer of Fairdeal you have to quote rentals
on an operating lease on a new model of Honda
Accord car for which an enquiry has come. The
discounted price of the vehicle for Faiedeal is Rs.
15 lacs. Its operating, maintenance, and insurance
costs are expected to be Rs.2.5 lacs in year 1;
thereafter it will increase annually by 6 percent.
The vehicle is expected to have a useful life of 6
years and it will fetch a net salvage value of Rs.6
lacs after that. The depreciation rate for tax
purposes is 40 percent under the WDV method.
Faideals tax rate is 35 percent and its cost of
capital is 10 percent.
What is the minimum annual lease rental that you
should quote? Ignore the cost of negotiation and
lease administration.

Lease Rental quote by Lessor


Fairdeal Leasing is in the business of providing
automobiles on operating lease to corporate
clients.
As Lease officer of Fairdeal you have to quote rentals
on an operating lease on a new model of Honda
Accord car for which an enquiry has come. The
discounted price of the vehicle for Fairdeal is Rs. 15
lacs. Its operating, maintenance, and insurance
costs are expected to be Rs.2.5 lacs in year 1;
thereafter it will increase annually by 6 percent.
The vehicle is expected to have a useful life of 6
years and it will fetch a net salvage value of Rs.6
lacs after that. The depreciation rate for tax
purposes is 40 percent under the WDV method.
Faideals tax rate is 35 percent and its cost of
capital is 10 percent.
What is the minimum annual lease rental that you
should quote? Ignore the cost of negotiation and
lease administration.

Checklist on Finalizing Lease Agreement

Advance payment
Security deposit interest/non-interest
bearing
Origination fee/ front end fee/ service
charges
Full payout/ non-full payout
Rentals advance, periodicity, renewal
option
Leveraged direct, syndicated, master,
import, cross borer, conditions of lenders
Lessors underlying costs
Lessors cost of lease
Lessors profit margin

Checklist on finalising Lease Agreement

Lessor - a manufacturer/dealer/ financer


Penalties non-renewal, cancellation,
late payment, default, excess use of
capacity
Residuals purchase option, type of
Security mortgage of assets, personal
guarantee
Insurance
Maintenance & other costs to lessor/
lessee
Transportation/ installation charges
Formalities to be complied with

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