Definition and evolution of leasing in India

According to IMF e-Library, Financial Leasing is defined as “A financial lease is an arrangement, for the provision of a capital good, between a lessor who provides the initial finance and a lessee who has the use of the asset without initially legally owning it”.

The following characteristics are typical under a financial lease arrangement.

The capital good is selected by the lessee from lists of goods available from manufacturers or other suppliers, the purchase of the goods is arranged by the lessee. The role of the lessor is simply to provide the requisite finance. The lessor does not purchase goods in advance of negotiating leases merely in the expectation that suitable lessees will appear. The initiative and the investment decision itself are therefore taken by the lessee and not the lessor. When the lessee has decided to acquire some machinery or equipment, he or she approaches the lessor to arrange the finance for the purchase.

The duration of the original contract or primary lease has to be sufficiently long to enable the lessor to amortize his or her capital outlay out of the rentals and to receive an adequate return on his or her outlay. The primary lease will usually be somewhat less than the expected economic lifetime of the asset but long enough to enable the whole of the lessor’s outlays to be recovered without raising the rentals to unreasonably high levels from the lessee’s point of view.

At the end of the primary lease, by which time the equipment has been fully amortized by the lessor, there are several possibilities: (1) a new lease may be negotiated at a much-reduced rental; (2) the good may be sold, in which case the lessee may be entitled to receive a share, and possibly the bulk, of the proceeds as a “rebate of rentals”; or (3) the good may be sold to the lessee.

It can be seen that the combined effect of the above conditions is to make the role of the lessor purely financial. At no stage does the equipment ever come into the possession of the lessor. The lessor does not have to have any expertise whatsoever concerning the equipment and may lease many different kinds of equipment simultaneously to different lessees. It follows that any type of equipment, from street lamps to oil rigs, is suitable for financial leasing, and virtually every type of equipment is leased. The passive financial role of the lessor is reinforced by the fact that it is the lessee who is responsible for the insurance and maintenance of the equipment and enjoys all the rights of the supplier that arise out of normal conditions of sale. (Source: IMF e-Library)

In short, we may say that leasing as a financial service is a contractual agreement where the owner (lessor) of equipment transfers the right to use the equipment to the user (lessee) for an agreed period in return for a rental. At the end of the lease period, the asset reverts to the lessor unless there is a provision for the renewal of the contract or a provision for the transfer of ownership to the lessee. If there is any such provision for transfer of ownership, the deal is treated as a hire purchase.

Evolution of financial leasing in India:

The leasing industry in India is of recent origin. It was pioneered in 1973 when for the first time the ‘First Leasing Company of India Ltd’ was set up in Madras (Chennai) by Farouk Irani, with industrialist A C Muthia. For almost seven years in the country, this company remained the only company in the country the sole leasing company. In 1980 another leasing company known as “20th Century Finance Corporation” came into existence. This leasing company was promoted and managed by qualified professionals from the city bank.

Thereafter, a virtual explosion in the leasing industry was noticeable in 1981 with four more organisations viz., Shetty Investment and Finance, ‘Jaybharat Credit and Investment’, ‘Motor and General Finance’ and ‘Sundaram Finance’ joined the leasing business essentially to take tax advantage. The last three names, already involved with the hire-purchase of commercial vehicles, were looking for a tax break, and leasing seemed to be the ideal choice.

The industry entered the third stage in the growth phase in late 1982, when numerous financial institutions and commercial banks either started leasing or announced plans to do so. ICICI, prominent among financial institutions, entered the industry in 1983 giving a boost to the concept of leasing.  It has witnessed significant growth with increasing awareness, new market players, and diversification of asset classes. As businesses expand, they require access to capital-intensive assets such as machinery, equipment, and vehicles. To add to the leasing boom, the Finance Ministry announced strict measures for the enlistment of investment companies on the stock exchange, which made many investment companies turn overnight into leasing companies. Foreign banks in India particularly Grind-lays did commendable work in marketing the leasing idea. At present, about 400-odd large companies have an organizational focus on leasing, and hence, are known as leasing companies. Apart from these, many companies engaged in other businesses are also leasing out mainly to employ their investible surplus in tax benefit.

Another significant phase in the development of Indian leasing was the Dahotre Committee’s recommendations based on which the RBI formed guidelines on commercial bank funding to leasing companies. The growth of leasing in India has distinctively been assisted by funding from banks and financial institutions.

A large part of this unprecedented growth was contributed by the Public Sector Units (PSUs). IDBI’s lease deal with Shipping Corporation of India for financing the acquisition of a single ship, SBI capital markets syndicated leasing deal for Mangalore Refinery and Petrochemical Ltd and Rajasthan State Electricity Board, ILFS syndicated lease deal for Maharashtra State Electricity Board (MSEB) and KDTK Mahindra Finance Ltd’s transmissions and distribution equipment’s lease deal for MSEB are major leasing contributions to the public sector units in India.

It is estimated that about 400-odd large companies that have an organizational focus on leasing, and hence, are known as leasing companies. Nowadays, most of them are diversified financial houses offering several fund-based and non-fund-based financial services. The annual leasing volume in India is estimated at USD 3.67 billion, a rough and conservative estimate. According to London Financial Group data, this should put India at 12-13th place, close to Hong Kong. India is the third largest market in Asia, next only to Japan and Korea.

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