In both developed and developing nations, leasing finance is an important source of finance for small scale industries or enterprises (SSIs or SSEs), for procuring factory land, building, machinery and office equipment for business expansion or replacement of capital equipment.

Particularly in newly industrialised countries (NICs) of Asia, viz. South Korea, Taiwan, Hong kong and Singapore, where small scale industries form the backbone of the economy because of the export revenue they earn, leasing provides 100 per cent finance without disturbing working capital arrangements and bank credit limits.

In India, leasing industry is well developed with nearly 40,000 companies catering to the needs of industrial and business enterprises. A small scale industry or enterprise in need of acquiring new plant, machinery or office equipment for expansion, replacement, renovation or modernization, can acquire it through leasing finance companies and enjoy the following advantages; full extent financing of the cost of capital goods, fixation of lease rentals and duration of lease period at the choice of lessee, avail leasing finance to meet medium term needs and a device of piecemeal financing.

Lease rental is deductible as a revenue expense. Mobilisation of lease finance is procedurally convenient and is a reliable source of supply of capital in times of stringent credit control. Leasing serves as additional means of finance and allows preservation of credit capacity to borrow for short or long term from banks or other resources. Besides, there are more advantages available from leasing to SSI/SSE depending upon the type of lease finance availed of. For example, finance lease is non-cancellable where as operating lease can be cancelled at will by the leassee. In both the cases the risk of obsolescence is passed on to the lessor.

SSI/SSE can acquire capital goods in domestic as well as overseas market through leasing finance. For importing plant and machinery from foreign countries, such finance is made available to them. This finance is available from lease finance companies, state financial corporation (SFCs), State level small industries corporations and financial services subsidiaries of commercial banks.

The procedure to avail of lease finance by SSI/SSE involves a few simple steps. The SSI must decide on the precise nature and type of equipment required to be purchased and approach the particular manufacturers or vendors to negotiate the price and other terms. The SSI, simultaneously, should make an application to leasing companies, stating intention to avail lease finance for purchase of the equipment. More than one lessor may be approached and after carrying out negotiations with all, the one offering the most convenient terms should be chosen. The SSI, after finalising negotiations with the supplier, may inform the leasing company about the specification of the equipment, the price, the terms of payment, warranties, delivery period, installation costs, transportation costs and other costs pertaining to bringing the equipment into operation. This will help in setting the negotiations between the lessor and the SSI with respect to the length of the lease period, the distribution of rentals over the period, the amount of rentals to be collected and the mechanism of collecting rentals. All these terms are incorporated in the lease agreement.

The SSI, to prove its capacity and ability to pay lease rentals in time, should submit the following information to leasing company viz. (a) Projected cash flow for next three years; (b) The brief profile and history of the SSI; (c) Partners / Directors bio-data, copies of Income Tax and Wealth-Tax assessment orders or returns filed for last three years; (d) The proposed increase in the productivity or the saving in the expenses from the assets leased; (e) The following ratios are computed and analysed:- Gross profit to sales, net operating profit to sales, current assets and current liabilities, total liabilities to net worth, rate of return on capital employed, debt service coverage to lease rentals.

The leasing company would like to analyse the proposal as a business risk and evaluate its worth with reference to the following criteria: viz. business standing of the SSI, nature of industry, future projections of the client (SSI), future of the industry as a whole vis-a-vis government policies, the strength of the individuals, the strength of the group to which the SSI belongs, evaluation of printed accounts of the SSI, nature of the assets to be financed, the liquidity strength of the SSI for repayment of rentals / installments, effective yield of the transaction bankers report and the market report.

After evaluating the above details and finding it satisfactory, the leasing company may give in writing to SSI its acceptance of the proposal and finalise Legal documents giving effect to the transaction may then be finalised.

Lease is a contractual arrangement between the lessor and leassee and is given effect to by signing the lease agreement which is properly worded, depicting clearly the intentions of the parties to lease transaction. A lease agreement should reflect the following important terms and conditions viz. (1) The amount of the rentals payable by lessee, the time and place of payments, grace period available for late payments, rate of penal interest payable in default, liquidated damages etc. (2) Lessee's obligations towards payment of various charges such as maintenance of equipment, repairs, registration, licence fee, rates and taxes, and lessor's rights on lessee's failure to discharge their obligations. (3) Date, place, mode of delivery of lease equipment and payment of costs associated with the delivery responsibility to pay insurance charges, types of insurance, receipt of insurance money under policy, rights and liabilities of parties in case of damage to leased property. (4) Variation clause to accommodate certain changes like revision in rentals due to external factors like bank interest rates, depreciation rates, allowance of certain fiscal incentive like investments allowance by the Government, etc. (5) Determination of lease when equipment damaged beyond repair. Theft of equipment, lessee's default in payment of rentals, bankruptcy of lessee, winding-up of lessee's business. (6) Indemnification of the lessor by lessee for all damages, etc. against third party risk. (7) Restrictions on lessee to hypothecate, sublease, rent, mortgage, create a charge on the lessee's assets without lessor's consent.

In addition to lease agreement, the lessee may be required to execute letter of guarantee and letter of confirmation of deposit of securities as additional measures to safeguard the interest of leasing company/. SSIs can have 100 per cent financing of the cost of plant, machinery or equipment through leasing. Leasing allows use of machinery without owning it, and the rentals paid for use are deductible expenses. Thus, assets so acquired under lease are not shown on assets side in the balance sheet because these are not under the ownership of the user-lessee.

Copyright © 1997 Indian Express Newspapers (Bombay) Ltd.