UNIT – III

FINANCIAL SERVICES AND ITS MECHANISM

LEASING
 It is defined as a contractual arrangement / transaction in which
a party owning an asset (lessor) provides the asset for use to
another or transfer the right to use the asset to the user (lessee)
for an agreed period of time for the consideration in the form of
periodic payment (lease rentals)
 The asset reverts back to the lessor unless there is a provision
for renewal of the contract.

ESSENTIAL ELEMENTS OF LEASING

1. Identified Asset
2. Right to obtain economic benefits from use
3. Lease Term
4. Separating component of contract
5. Extension and termination options

TYPES OF LEASES
According to Ind AS-116, the classification of lease is based on the
extent to which risks and rewards incidental to ownership of a leased
asset lie with the lessor or the lessee.
Risk includes possibilities of the losses due to obsolescence or
changing economic conditions.
Rewards includes expectations of profitable operation over the
economic life of the asset.
A lease is finance lease or operating lease depends on the substance of
the transaction rather than its form.
 1. FINANCIAL LEASE
 Lessor transfers to the lessee substantially all the risks &
rewards incidental to the ownership.
 This type of lease is for long period provides for the use of an
asset for almost the entire life of the asset.
 It involves payment of lease rentals over the lease period which
is sufficient to amortize the capital outlay of the lessor.
 The lessor is only a financier.
 Repairs, Maintenance etc. services not provided.
 It is called as ‘full pay out leases’ or ‘capital lease’
 e.g. Ships, aircrafts, building, heavy machinery etc.

2. OPERATING LEASE
 The lessor does not transfer all the risks & rewards incidental to
the ownership of the asset to the lessee.
 The lessor provides Repairs, Maintenance & technical advice
services.
 It is also called as ‘service lease’.
 Lessor does not depend on a single lessee for recovery of his
cost.

OPERATING LEASE v/s FINANCE LEASE

1. Meaning
2. Ownership
3. Purchase option
4. Lease Term
5. Expenses
6. Tax Benefit
7. Running costs
8. Risk & Rewards related to the asset
ADVANTAGES / SIGNIFICANCE OF LEASING
A. TO THE LESSEE
1. Financing of capital goods
2. Additional source of finance
3. Balanced Cash Outflow
4. Less expensive
5. No dilution of ownership
6. Free from restrictive conditions
7. Flexibility in structuring lease rentals
8. Simplicity
9. Tax benefits
10. Convenience
11.Higher Return on Capital Employed
12. Good Quality Assets

B. TO THE LESSOR
1. Assured Regular Income
2. Preservation of Ownership
3. Tax Benefit
4. High Potentiality of Growth
5. Recovery of Investment
6. Trading on Equity

DISADVANTAGES OF LEASING
A. TO THE LESSEE
1. Loss of moratorium period
2. Risk of being deprived of the use of asset
3. No alteration or change in asset
4. Loss of ownership incentives
5. Penalties on termination of lease
6. No ownership
7. Loss of salvage value of the asset
8. Understatement of asset
 C. TO THE LESSOR
1. Unprofitable in case of inflation
2. Double taxation
3. Greater chance of damage of asset

HIRE PURCHASE
 Hire Purchase agreements are agreements whereby an owner of
goods allows a person, the hirer, to hire goods from him for a
certain period of time by paying instalments.
 It is a method of financing of the fixed asset to be purchased on
future date.
 Purchase price is paid in instalments.
 Ownership of the asset is transferred after the payment of the
last instalment.

TERMS USED IN HIRE PURCHASE AGREEMENTS

 Hire Vendor
 Hire Purchaser
 Cash Price
 Down Payment
 Hire Purchase instalment = Principle + Interest
 Hire purchase price = Cash Price + HP Instalments
 Interest

ADVANTAGES OF HIRE PURCHASE

1. Convenience in payment
2. Increased volume of sales
3. Increased Profits
4. Encourages savings
5. Helpful for small traders
6. Earnings of Interest
 7. Lesser Risk
8. Easy
9. Depreciation & Tax Payment
10. No drain on working capital

PROBLEMS OF HIRE PURCHASE

1. Higher Price
2. Artificial demand
3. Heavy risk
4. Difficulties in recovery of instalments
5. Transfer of ownership

HIRE PURCHASE v/s INSTALMENT SALE

1. Nature of Contract
2. Number of Parties
3. Ownership
4. Right to Sell or Transfer
5. Risk
6. Right to Return
7. Repairs & Maintenance
8. Damage Claim
9. Right to Terminate Contract
10. Forfeiture of Instalment Paid

HOUSING FINANCE
 It is the basic need of people. It is linked with the socio-
economic development of a country.
 In India there is great need for the development of housing
sector due to large population.
 Pradhan Mantri Awaas Yojna (PMAY)
 Roles of National Housing Bank (NHB)
FAIR TRADE PRACTICE CODE FOR HFC’S
NHB has framed guidelines on a fair practices code for HFC. The
code seeks to promote good & fair practices by setting minimum
standards in dealing with customers, increased transparency so that
the customer can have a better understanding of what he / she can
reasonably expect of the services, encourage market forces through
competition to achieve higher operating standards, promote fair and
cordial relationship between customer and HFC & foster confidence
in the housing finance system.
A. Commitment to Customers
1. To act fairly & reasonably in all dealings with customers
2. To help customers understand how their financial products and
services work.
3. To help customers to use the products & services.
4. To deal quickly & sympathetically with things that go wrong.
5. To treat all personal information of customers as private &
confidential.
6. To adopt & practice a non-discriminatory policy.

B. Disclosure & Transparency

1. HFCs should provide information on interest rates, common
fees & charges.
2. Changes in interest rates and fees
3. Terms & conditions
4. Changes to terms & conditions

C. Advertising, Marketing & Sales

D. Privacy & Confidentiality

E. Collection of Dues
 F. Complaints & Grievances

G.Know Your Customer (KYC) Guidelines

H.Deposit Accounts

VENTURE CAPITAL
 It is defined as “The support by investors of entrepreneurial
talent with finance & business skills to exploit market
opportunities & thus obtain capital gains.
 In simple words, it refers to the financing of a startup company
by typically high-wealth investors who believe that the business
has potential to grow substantially in the long run.
 Such investments are risky as they are illiquid, but are capable
of giving impressive returns if invested in the right venture.
 Examples – Amazon, Google, Whatsapp, Facebook, Zoom,
Alibaba, Twitter, Uber etc.

FEATURES OF VENTURE CAPITAL

1. High Risk – GoZoomo, Local Banya, Monkey Box, Zebpay,
Koinex, AUTOnCAB, Job Bridge etc
2. High Technology
3. Equity Participation & Capital Gains
4. Participation in Management
5. Long term Investment
6. Illiquid Investment

TYPES OF VENTURE CAPITAL FINANCING STAGES

 A. Early Stage Financing
i. Seed Capital and R&D Projects/Pre-start ups
ii. Start ups
iii. Second Round Financing

B. Later Stage Financing

I. Development Capital
II. Expansion Finance
III. Buy-outs
a. Management Buy-outs (MBOs)
b. Management Buy-ins (MBIs)
IV. Replacement Capital
V. Turnarounds

DISIVESTMENT MECHANISMS
1. Disinvestment of Equity / Quasi-Equity Investments
(a) Going Public / Initial Public Offerings
(b) Sale of shares to entrepreneurs / Employees
(c) Sale to another company
(d) Selling to new investor
(e) Liquidation
2. Exit of Debt Instruments

VENTURE CAPITAL INVESTMENT PROCESS

A. Eligibility criteria for Proposals
(a) The venture must be technically feasible
(b) It should be commercially viable
(c) The technical & managerial competence & integrity of the
entrepreneur
(d) The long run competitive advantage of the units
(e) Future Prospects
(f) Availability of inputs
(g) Legality of the proposal
B. Screening of Venture Capitalist by the Entrepreneur
(a) Approach of the Capitalists
(b) Terms & Conditions
(c) Exit Policy
(d) Availability of funds
(e) Past history of the Capitalists
(f) Miscellaneous
C. Screening of Entrepreneur & the Proposal by the Venture
Capitalists
1. Fundamental Analysis
2. Financial Analysis
3. Portfolio Analysis
4. Divestment Analysis