LEASING BUSINESS - SHIFTING FOCUS FROM INDUSTRIAL TO CONSUMER FINANCING

LEASING COMPANIES CREATED TO FILL THE INTERMEDIATION GAP

SHAMSUL GHANI (shams_ghani@hotmail.com)
Feb 04 - 10, 2008

With the phasing out of country's high profile Development Financial Institutions (DFIs), the leasing and modaraba sectors stepped in with a mandate to act as intermediaries between the banks and business / industrial sectors. With the advent of leasing sector, the business and industry circles were introduced to a new financial culture with a sharp focus on country's capital formation needs and a will to act as swiftly as possible. This was in sharp contrast to banks' traditionally slow and over cautious approach to customers' financing requests. Blessed with an enormous business network and numerous business options, the banks allowed the leasing and modaraba sectors to develop without subjecting them to any serious competitive pressures. Some of the modarabas were also allowed to do leasing business, albeit strictly in line with the rules based on shariah. They could write operating leases only under which the leased asset is reported on the balance sheet of the lessor that is the modaraba who avails depreciation related tax benefits, if any. This situation forced the industrial borrowers, in general, to do business with the leasing companies who normally write finance leases under which the leased asset is reported on the balance sheet of the lessee that is the borrowing company. The leasing sector took birth in mid eighties and used its dynamics to broaden the country's industrial fixed asset base. National Development Leasing Corporation NDLC set up under the professional patronage of the then NDFC provided a solid base to the nascent leasing industry and encouraged the new players to take the arena.

Presently, the leasing industry is struggling to ensure its survival threatened by the perennial resource mobilization problem. Unlike banks, it has no access to the low cost customer deposits and has to procure business funds from open money market who, besides charging higher rates, also takes into consideration the credit rating of a particular leasing company. During the falling interest rates era too, the leasing companies could not enjoy a sustained flow of low cost business funds. In the existing rising rates scenario, the problem has been compounded. Though the banks never assumed an explicitly competitive posture against the leasing companies, yet the fact remains that in the absence of an even playing field, the leasing companies persistently find themselves in a state of implicit competition. The floating rate borrowing and lending also pose serious maturity matching problems for the leasing companies, which if not tackled adroitly give rise to a default situation.

This is unfortunate that in order to survive, the leasing companies have taken to certain risk management policies warranting shifting focus from large size industrial leases to small size consumer lease financing. Large size industrial leases, besides posing risk concentration threat also entail leased asset repossession and disposal problems in case of a default. An erected industrial plant at borrower's site is not only cumbersome to remove but also difficult to dispose off at a price that ensures hundred per cent loan recovery. On the other hand, the moveable assets like vehicles are not only easy to repossess but are almost certain to fetch a full loan liquidation price. The leasing companies have somewhat managed to survive but the role they were supposed to play in the country's industrial development has been undermined. Figures released by the Leasing Association of Pakistan (LAP) show that 44.2 per cent of the entire disbursed funds during 2005-06 were utilized to finance plant and machinery as against 46.7 per cent utilized to finance private and commercial vehicles. This shows the extent of the shift of focus from industrial to commercial leasing.

GROWING OR STRUGGLING TO SURVIVE

The comparative figures released by LAP for the three year period 2004-06 are reproduced below to study the growth pattern of the leasing sector. The figures include the performance of 7 leasing modarabas and a few investment companies.

Million Rs.

YEAR

2004

2005

2006

Number of companies

31

31

29,

Paid up capital

10,459

11,716

12,185

Retained earnings

4,885

7,835

8,600

Investment in lease finance

52,218

65,333

75,151

Other investments

16,134

18,912

21,687

Borrowings

52947

70,523

78,882

Revenue

9,925

11,712

14,665

Cash dividend

839

660

900

Total assets

83,962

109,770

123,501

It will be observed that no expansion of the sector based on number of companies has taken place during the three year period. The large size of borrowing indicates the extent to which the leasing companies are debt dependent. The cash pay out is quite low as compared to the size of retained earnings which shows that the leasing companies are compelled to plow back their earnings instead of passing them on to their shareholders.

As of January 31, 2007, 19 leasing companies are listed on Karachi stock exchange out of which 5 are being reported under the defaulters' category. These 19 leasing companies have an aggregate paid up capital of Rs.5,390 million with a market capitalization of Rs.6,638 million. This growth when compared to the growth of commercial banks during the same period is marginal. The top performers are Askari Leasing, Orix Leasing and Sigma Leasing whose Rs.10/- shares are being traded at Rs.26.90, Rs.26.50 and Rs.24.60 respectively

Leasing sector's investment in leasing when compared to the economy's total bank credit size appears quite low. The industry, in fact, is not growing. It's struggling to survive.

LEASING INDUSTRY BEGGING FOR REFORMS

The paucity of funds syndrome has enveloped the entire leasing industry that is in need of an immediate succor. Their basic role of a powerful engine to provide financing steam to the industry especially the SME sector needs to be rewritten. Consumer financing should lie within the ambit of banks that by virtue of their various economies carry out business with a much low administrative cost. Only leasing companies should be allowed to undertake leasing business.

To ensure a sustained low cost funds flow, the leasing companies should be allowed to accept term deposits from the public with the same return structure as the commercial banks are presently offering. As an alternative, the banks may be directed to provide term finance to leasing companies based on banks' term deposit portfolio with a maximum spread of two per cent. The existing fund raising instruments namely COIs and TFCs, being expensive and time consuming, are a less viable proposition. The leasing companies have been raising borrowed funds from banks and financial institutions through assignment of future receivables and collateralization of leased assets. This arrangement is of a dubious nature and needs to be done away with as in case of leasing company's default, the repossession of asset by the lending institution will open Pandora's "legal" box.