Financial leasing


 Leasing is a significant industry. In the year 2004, it accounted for over
$570 billion in new originations as measured by equipment cost. This
represented approximately 20% of the total investment in equipment.
 The U.S. is the most mature leasing market in the world: it has a
penetration rate exceeding 30%. Leasing in the U.S. is the single largest
source of external financing. Emerging lease markets generally have a
single digit penetration percentage.
 There are five stages to the evolution of leasing. These are:
 “simple” finance lease
 “creative” finance lease
 Operating lease
 New products
 Maturity
 Financial leasing

 There are only two basic types of leases in the market place-
the finance and the operating lease. Finance leases are generally
net. At the end of the lease term, the lessee generally purchases
the equipment for a nominal amount.
 Operating leases can either be net or full service; it depends
on what the lessee desires. At the end of an operating lease the
lessee either returns the equipment, purchases it or renews the
lease.
The sole difference between a marketplace finance lease and 
an operating lease has to do with full payout/ nonfull payout.
Finance leases are full payout where the sum of the rentals will
equal equipment cost plus the lessor’s desired return.
Operating leases are nonfull payout owing to the existence of
residual
 Financial leasing

 Residual is the estimated value of the equipment at the
end of the lease term on an operating lease. It causes the
lessor to have an asset risk in the lease. Thus, operating
leases have both credit and asset risk while finance leases
only have credit risk.
 A sale leaseback can either be a finance lease or an
operating lease.
 A leveraged lease is one with nonrecourse debt.
 A synthetic lease has not been defined in this publication!
 There are two types of lessors: independent (as they
purchase goods from a variety of suppliers) and captives.
Independents can either be banks or bank affiliates or
they can be nonbank lessors.
 GLOSSARY

 Call option
 An option exercisable at the discretion of the lessee.
 capitalize
 To record an asset (and in the case of a finance or capital lease,
the corresponding liability) on the balance sheet.
 Captive lessor
 A lessor which is a department, division or subsidiary of a
seller of goods.
 cross-border lease
 A transaction where the lessor and lessee are domiciled in
different countries.
 Dollar out lease
A full payout tease with a $1 purchase option 
 GLOSSARY

 Finance lease
 A transaction that is typically net but invariably full payout.
 Full payout
 Where the sum of the rentals, without any reliance on residual,
fully pays the lessor the equipment cost (principal) plus the
desired interest in the transaction.
 Full-service
 A finance or operating lease where the lessor bundles other
services (besides financing) such as insurance and maintenance
into the lease. Also known, at times, as a wet lease.
 Independent lessor
A lessor who purchases equipment on behalf of its lessees, from 
a variety of dealers. distributors and manufacturers
 GLOSSARY
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 Leverage
 The benefit (or detriment) that stems from procuring debt. Also known as
gearing
 Leveraged lease
 A transaction where the lessor’s debt is nonrecourse.
 Net
 A finance or operating lease where the responsibilities of ownership such
as insurance, maintenance and repairs, are the lessee’s burden.
 Also known, at times, as a dry lease.
 Nonfull payout
Where the sum of the rentals does not fully pay the lessor the equipment 
cost (principal) plus the desired interest in the transaction; thus, a lease
where the lessor is residual reliant to be fully paid out
 GLOSSARY

 Nonrecourse
 Without recourse or without being obligated as in a nonrecourse loan.
 Off balance sheet
 Where certain operating leases are not recorded on the balance sheet
of the lessee.
 Operating lease
 A transaction that is either net or full-service but invariably nonfull payout.
 Purchase option
 An option given to the lessee whereby the lessee, at the end of lease term,
can either purchase the leased asset or return it.
 Put
 An end of term event which the lessee is required to perform.
 GLOSSARY
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 Residual
 The estimated market value of the leased asset at the end of the
lease term; an amount the lessor has to estimate at the inception of
the lease agreement.
 Sale leaseback
 A transaction where an entity sells used equipment to a lessor and
simultaneously enters into a lease for the same equipment.
 Securitization
 A process whereby the lessor sells a part of its lease receivables
generally through a special purpose vehicle.
 Synthetic lease
 A lease which is an operating lease for accounting purposes and a
loan for tax purposes. .
 leasing
 GLOSSARY

 TRAC lease.
 A lease where the lessee guarantees the lessor’s residual.
TRAC stands for Terminal Rental Adjustment Clause.
 Vend or leasing
 An arrangement between a seller of goods and a lessor
whereby the lessor typically obtains an exclusive
agreement to finance the vendor’s sales.
 Venture lease
A hybrid transaction that encompasses the characteristics 
of venture capital and equipment
 Summary

 The tease is a contractual agreement between the lessor and the lessee.
 The lease gives the lessee the right to use specific property.
 A lease transferring substantially all of the benefits and risks of
ownership should be capitalized.
 Leases that do not substantially transfers benefits and risks are
operating leases
 Leases that meet any of the following four criteria are capital leases for the
lessee:
 Leases, transferring ownership
 Leases with bargain purchase options
 Leases with lease terms equal to 75% or more of the economic life (75%
rule)
 Leases where the present value of lease payments is equal to 90% or more
of the fair market value (90% rule)
 Summary

 In determining the present value of the lease payments,
three important factors are considered:
 Minimum lease payments the lessee is expected to make
under the lease,
 Discount rate (used by the lessee to determine the present
value of minimum lease payments)
 In a capital lease transaction, the lessee records an asset and
a liability.
 The asset is depreciated by the lessee over the economic life
of the asset.
 Summary

 The effective interest method is used to allocate the rental
payments between principal and interest.
 Depreciation of the asset and discharge of the lease obligation are
independent accounting procedures.
 Lessor classifies leases as one of the following:
 Operating lease
 Direct financing lease
 Sales-type lease
 The lessor depreciates the leased asset according to its
depreciation policy.
 Maintenance costs of the leased asset (payable by lessor) are
charged to expense.
Costs such as finder’s fees and credit checks, are amortized over the 
lease term.
 Summary

 The leased equipment and accumulated depreciation are
shown as Equipment Leased to Others.
 For the lessee, there are requirements for capital leases
 For the lessor, there are requirements for sales-type and
direct financing leases.
 For the lessor, there are requirements for operating leases
 Terms to learn
 Accounting by Lessee
 Accounting by Lessor
 Accounting criteria
 Bargain purchase options
 Capital leases
 Current versus noncurrent
 Depreciation
 Direct financing lease
 Disclosure
 Discount rate
 Lease contract Leasing Basics
 Lessee
 Lessor
 Minimum lease payments
 Operating leases
 Sales-type lease
 Transferring ownership
 Unearned interest revenue
 Summary

 . Rentals in a lease can either be in advance or arrears. Also
they can either be monthly, quarterly, semiannually or
annually.
 2. Present value is the process of discounting future cash flows
to today-time zero.
 3. Discounting is the opposite of compounding; when the
discount rate in a transaction equals the interestrate in the
transaction, present value equals principal.
 4. Annual effective rates are greater than annual nominal rates
as the effective rates take into account the frequent periodic
compounding.
 Summary

 Discount rates must be in sync with the periods over which
cash flows are discounted; if cash flows are monthly, the
discount rate is the monthly equivalent of the annual rate.
 . IRR in its simplest form is the interest rate in the lease.
 . The word "internal" within the expression "internal rate of
return" means that all successive cash flows in a lease are
assumed to be reinvested internally within the transaction.
 , IRR is that unique rate in a transaction that results in NPV
equal to ZCIO,
 Advance
 Where rentals are received in advance of the period of usage.
 Annuity
 A series of cash flows received/paid over regular intervals.
 arrears
 Where rentals are received at the end of the period of usage.
 Discounting
 The process used to obtain present value. Also, discounting is the opposite of
compounding; when the discount rate in a transaction equals the interestrate in the same
transaction, present value equals principal.
 effective rate
 A rate which takes into account frequent periodic compounding. Example: if the monthly
interest rate is 1% and money is to be compounded monthly, the annual effective rate will
be 12.68%, Effective rates are always greater than nominal rates.
 internal rate of return
 Also IRR. In its simplest form, it is their interest rate in the lease. Technically, it is that
unique discount rate in a transaction which gives a net present value (NPV) of zero.
 net present value
 The difference between the present value of cash outflow and cash in-flow.
 nominal rate
 A rate which does not take into account the frequency of compounding. Example: if the
monthly interest rate is 1% and money is to be compounded monthly, the annual
nominal rate will be 1x12 = 12%.
 present value
 The value today of future cash flows
 Summary

 There is only one difference between a marketplace finance lease and a
marketplace operating lease: full payout versus nonfull payout. This
caused by residual on operating leases. Thus, operating leases entail two
types of risks: credit risk and asset risk.
 . Operating leases can either be net or full-service. This depends on what the
lessee desires.
 . At the end of term on an operating lease, the lessee can either return the
equipment, purchase it or renew the lease. If the equipment is to be
purchased via a purchase option, it is purchased either at the end of term
FMV, the FMV with a ceiling or at a mutually preagreed amount stated in
the lease contract. If no purchase option exists, the two parties will arrive at
a negotiated purchase price at the end of the lease.
 . Marketplace operating leases can either be finance or operating leases
from an accounting point of view. Its accounting classification primarily has
to do with the 90% present value test. If the residual is high enough for the
rentals to be low enough not to meet the test, the lease will generally be
classified as an accounting operating lease.
 Summary

 Marketplace operating leases offer the following unique
benefits to the lessee:
 • Hedge against technology
 • Technology refresh
 • Early termination options
 • Lower rentals
 • Bundling of services
 • Approval from operating budgets
 • Tax benefits
 • End of term flexibility
 Summary

 Off balance sheet financing (marketplace operating leases that are
classified as operating leases from an accounting point of view) offers
the following unique benefits to the lessee:
 • Ratio enhancement
 • Possible improvement in earnings
 • Possible avoidance of restrictive covenants
 • Increased bonuses to management
 • Asset tax avoidance
 • Book loss avoidance
 7. Ratio enhancement, through window dressing, makes the financial
statements appear stronger than otherwise.
 8. Earnings can be improved via off balance sheet financing as rent
minus depreciation on an operating lease is a straight line compared
to the downward sloping interest expense line on a finance lease.
 Summary

 Operating leases offer the following unique benefits to the
lessor:
 • Niche market
 • Additional profit opportunities from bundling
 • Residual upside
 • Entry into vendor leasing programs
 • Tax benefits
 • Skills gained benefit all leases
 10. There are four unique risks inherent in operating leases.
These are:
 • Financial reporting risk
 • Managerial reporting risk
 • Funding risk
 • Pricing risk
 Summary
11. The risks and their impact and the solutions are presented below:
Risk
1. Financial
Impact

Lower earnings in
Solution
Convert large operating
reporting earlier period leases to finance leases
2. Managerial ROA distortion Adjust depreciation for
reporting internal purposes
3. Funding Higher cost of capital Need higher returns
4. Pricing Losing business to Exercise pricing discipline
foolish competitors
 
 Residual risk emanates from the following five
categories:
 • Supplier related
 • Economic and regulatory
 • Lessee related
 • Asset related
 • Lessor related
 GLOSSARY

 Fair market value purchase option
 A purchase option in the lease contract allowing (not obliging)
the lessee to purchase the leased asset at the fair market value
at the end of the lease term.
 Finance lease
 A lease from a marketplace point of view, which is full payout
with no reliance on residual; and a lease from an accounting
point of view, which meets one or more of five (four for FASB )
IAS 17 criteria.
 Financial covenants
 Restrictions placed on borrowers by lenders with a view to
protect the lender's interest.
 GLOSSARY
 Fixed purchase option

 A purchase option in the lease contract allowing (not obliging) the lessee to
purchase the Leased asset at a fixed price at the end of the lease term
 Full payout
 A lease where the lessor assumes a residual position of zero in pricing the
lease; thus, the sum of the rentals equal the equipment cost (principal) plus
the pretargeted interest in the transaction.
 Full-service
 A lease in which services such as maintenance and insurance are included.
Also known as a “wet” lease.
 Marketplace
 The commercial framework as contrasted with the accounting, tax or legal
frameworks.
 GLOSSARY
 Net

 A lease in which no services are included thereby requiring the lessee
to be responsible for items such as maintenance and insurance. The
lessor is only providing one thing, the financing. Also known as a
“dry” lease.
 Nonfull payout
 A lease where the lessor assumes a certain residual position thereby
causing the sum of the rentals to be less than equipment cost
(principal) plus the pretargeted interest in the transaction.
 Operating lease
 A lease from a marketplace point of view, which is nonfull payout
owing to the residual position assumed by the lessor; and a lease
from an accounting point of view, which is not a finance lease.
 GLOSSARY
 Remarketing

 The process whereby the lessor sells or leases the equipment to a third party when the lessee returns
the equipment either during the lease term or at the end of the lease term.

 Renewal option

 An option in the lease contract allowing (not obliging) the lessee to extend the lease term either at a
stated rental or the then fair value rental.

 Residual guaranty

 A guaranty obtained by the lessor either from the lessee or a third party such as the vendor or an
insurance company, whereby a part or all of the lessor's residual risk is hedged.

 Residual insurance

 Insurance available in developed lease economies whereby an insurance company guarantees part or
all of the lessor's residual.
 GLOSSARY

 Technology refresh

 Where a lessee negotiates with a lessor to have existing leased assets be

taken out prior to the expiration of the lease term and where the existing
assets are replaced with newer assets which are technologically more
conducive for the lessee.

 Vendor leasing program

 An arrangement between a seller of goods and a lessor whereby the lessor

typically obtains an exclusive agreement to finance the vendor's sales.
 MSQ

 1- Lease A does not contain a bargain purchase
option, but the lease term is equal to 90% of the estimated
economic life of the leased property. Lease B does not
transfer ownership of the property to the lessee by the end
of the lease term, but the lease term is equal to 75% of the
estimated economic life of the leased property. How should
the lessee classify these leases?
 Lease ALease B
 A Operating lease Capital lease
 B Operating lease Operating lease
 C Capital lease Capital lease
 D Capital lease Operating lease
 MSQ

 2-On January 2, 2002, Ashe Company entered into a 10-year,
noncancellable lease requiring year-end payments of $100,000. Ashes
incremental borrowing rate is 12%, while the lessor’s implicit interest
rate, known to Ashe, is 10%. Present value factors for an ordinary
annuity for 10 periods are 6.145 at 10%, and 5.650 at 12%. Ownership
of the property remains with the lessor at expiration of the lease. There
is no bargain purchase option. The leased property has an estimated
economic life of 12 years. What amount should Ashe capitalize for this
leased property on January 2, 2002?
 A. $1,000,000
 B. $614,500
 C. $565000
 D. $0
 MSQ

 3- On July 1, 2002, Glen Corp. leased a new machine from Ryan Corp.
The lease contains the following information:
 Lease term 10 years
 Useful life of the machine 12 years
 Present value of the minimum lease payments $120,000
 Fair value of the machine 200,000
 Executory costs 3,000
 No bargain purchase option is provided, and the machine reverts to Ryan
when the lease expires. What amount should Glen record as a capitalized
leased asset at inception of the lease?
 A. $0
 B. $120,000
 C. $123,000
 D. $200,000
 MSQ

4-One criterion for a capital lease is that the term of the lease .1
must equal a minimum percentage of the leased property’s
estimated economic life at the inception of the lease. What is
this minimum percentage?

A.51%
B.75%
C.80%
D.90%
 MSQ
1- On January 1, 2000, JCK Co. signed. a contract for an 8-year .lease
of its equipment with a 10-year life. The present value of the 16


equal semiannual payments in advance equaled 85% of the
equipment’s fair value. The contract had no provision for JCK, the
lessor, to give up legal ownership of the equipment. Should JCK
recognize rent or interest revenue in 2002, and should the revenue
recognized in 2002 be the same or smaller than the revenue
recognized in 2001?

2002 revenues recognized 2002 amount recognized

compared to 2001
A Rent The same
B Rent Smaller
C Interest The same
D Interest smaller
 MSQ
 6-

For a capital lease, the amount recorded initially
by the lessee as a liability should normally
 A. Exceed the total of the minimum lease payments.
 B. Exceed the present value of the minimum lease
payments at the beginning of the lease.
 C. Equal the total of the minimum lease payments.
 D. Equal the present value of the minimum lease
payments at the beginning of the lease.
 MSQ

 Answers:
1. Answer (C) is correct
2. Answer (B) is correct
3. Answer (B) is correct.
4. Answer (B) is correct.
5. Answer (D) is correct.
6. Answer (D) is correct.

TOP 10 LEASING COMPANIES IN EGYPT
Rank Company’s Name


Market Share Volume of
Finances
#1 Al Tawfeek Leasing 13.38% 880.29
million
#2 Corporate Leasing 11.51% 756 million
Company – CORPLEASE
#3 GB Lease 11.41% 735 million

#4 EFG Hermes Leasing 10.09% 667 million

S Al Ahly Leasing Company 9.71% 638 million

#6 Technolease for Financial 8.51% 559 million

Leasing
#7 International Co. for 8.07% 510 million
Leasing (Incolease)

#8 Nile Financial Leasing 6.19% 407 million

Company
#9 Global Leasing Company 3.79% 249 million

#10 QNB AlAhli Leasing 3.08% 202 million

TOP 10 LEASING COMPANIES IN
EGYPT

TOP 10 LEASING COMPANIES IN
EGYPT

TOP 10 LEASING COMPANIES IN
EGYPT

TOP 10 LEASING COMPANIES IN
EGYPT
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