LEASE FINANCING -Module Week 7- SPECIAL TOPIC A financial lease is a long-term lease in which the lessee assumes most

se in which the lessee assumes most of the risks

and rewards of ownership. It is often treated as a form of asset financing.
What is a lease?
Key Features:
Lease is a contract outlining the terms under which one party  Long-term lease, often covering most of the asset's useful life.
agrees to rent an asset. also known as the tenant.  Lessee may have the option to purchase the asset at the end of the lease
term.
What is lease Financing?  The asset is recorded on the lessee's balance sheet as if it were owned.
Lease financing refers to a financial arrangement in which a business
Lease payments are treated as both interest and principal repayments.
(lessee) obtains the right to use an asset owned by another party
(lessor) in exchange for periodic payments over a specified term.
Operating Lease
An operating lease is a short-term or medium-term lease where the lessor
Purpose:
retains most of the risks and rewards of ownership. The lessee simply pays
It allows businesses to access and use assets such as equipment, property, or
to use the asset for the agreed period.
vehicles without purchasing them outright, thereby preserving capital and
improving cash flow.
Key Features:
Parties Involved:
 Typically, short-term compared to a finance lease.
Lessor – the owner of the asset. Lessee – the user of  Ownership and risks remain with the lessor.
the asset.  Lease payments are treated as operating expenses and are not shown on
the lessee’s balance sheet.
Lease Rental:  At the end of the lease, the asset is returned to the lessor, with no
ownership transfer.
The periodic payment made by the lessee to the lessor is known
as lease rental.
Two distinct phases: the primary period and the secondary period.
Ownership and Rights:
 The lessee is granted the right to use the asset. 1. Primary Period:
 Ownership of the asset remains with the lessor. Non-cancellable: During this phase, the lease is typically non-cancellable, meaning
End of Lease Options: the lessee is obligated to make lease payments for the duration of this period.
At the end of the lease contract, the lessee may:
 Return the asset to the lessor, Investment Recovery: The lessor (the owner of the asset) recovers their total
 Renew the lease agreement, or investment in the asset through lease rental payments made by the lessee. These
 Purchase the asset (if the option is provided). payments are often higher during this period because they cover not only the cost
Different Types of Leases: of the asset but also the lessor’s desired profit margin.
1. Finance lease Indefinite Duration: The primary period can last for a pre-determined length of
2. operating lease. time, but in some cases, it may last for an extended or indefinite period based on
Finance Lease (or Capital Lease) the lease agreement and the type of asset leased.
 Alternatively, the landlord may give Maria the option to purchase the
apartment at a discounted price, reflecting its residual value.
Example (Apartment Lease): Advantages and Disadvantages of Lease Financing:

Maria signs a 3-year apartment lease contract in Manila.  At present leasing activity shows an increasing trend. Leasing appears to
be a cost-effective alternative for using an asset. However, it has certain
 Non-cancellable: She is required to pay rent for the full 3 years, even if advantages as well as disadvantages.
she decides to move out early. Advantages:
Lease financing has following advantages
 Investment Recovery: The landlord (lessor) sets the monthly rent in such a. To Lessor:
a way that they recover the cost of the apartment unit’s upkeep and The advantages of lease financing from the point of view of lessor are
desired profit within this period. summarized below

 Fixed Duration: The primary period is 3 years, and Maria cannot break  Assured Regular Income:
the lease unless there’s a special agreement or penalty clause. Lessor gets lease rental by leasing an asset during the period of lease which is an
assured and regular income.
After the 3 years (end of the primary period), Maria may be given the option to:
 Renew the lease at a possibly lower or negotiated rent, or  Preservation of Ownership:
 Vacate the apartment and return it to the landlord. In case of finance lease, the lessor transfers all the risk and rewards incidental to
ownership to the lessee without the transfer of ownership of asset hence the
2. Secondary Period: ownership lies
 Lower Lease Payments: Lease rentals are much lower compared to the with the lessor.
primary period since the lessor has already recovered the asset’s cost.
Sometimes this is called peppercorn rent (a nominal fee).  Benefit of Tax:
As ownership lies with the lessor, tax benefit is enjoyed by the lessor by way of
 Extended Use of the Asset: The lessee may continue using the asset at a depreciation in respect of leased asset.
significantly reduced rate.
 Purchase Option: The lessee is often given the choice to purchase the  High Profitability:
asset at a reduced price, based on its residual value. The business of leasing is highly profitable since the rate of return based on lease
rental, is much higher than the interest payable on financing the asset.
Example (Apartment Lease):
Maria completed her 3-year primary lease for an apartment in Manila.  High Potentiality of Growth:
 During the secondary period, the landlord offers her a chance to extend The demand for leasing is steadily increasing because it is one of the cost efficient
the lease at a much lower rent since the landlord has already recovered forms of financing. Economic growth can be maintained even during the period of
most of their investment during the first 3 years. depression. Thus, the growth potentiality of leasing is much higher as compared
 Maria can continue living in the apartment for a nominal monthly fee toother forms of business.
(peppercorn rent) that mainly covers maintenance costs.
 Recovery of Investment:
In case of finance lease, the lessor can recover the total investment through lease Lessor gets fixed amount of lease rental every year and they cannot increase this
rentals. even if the cost of asset goes up.

b. To Lessee: Double Taxation:

 Use of Capital Goods:  Sales tax may be charged twice:

A business will not have to spend a lot of money for acquiring an asset but it can First at the time of purchase of asset and second at the time of leasing the asset.
use an asset by paying small
monthly or yearly rentals.  Greater Chance of Damage of Asset:
As ownership is not transferred, the lessee uses the asset carelessly and there is a
 Tax Benefits: great chance that asset cannot be useable after the expiry of primary period of
A company is able to enjoy the tax advantage on lease payments as lease lease.
payments can be deducted as a
business expense. B. To Lessee:
The disadvantages of lease financing from lessee’s point of view are given below:
 Cheaper:
Leasing is a source of financing which is cheaper than almost all other sources of  Compulsion:
financing. Finance lease is non-cancellable and even if a company does not want to use the
asset,
 Technical Assistance: lessee is required to pay the lease rentals.
Lessee gets some sort of technical support from the lessor in respect of leased
asset.  Ownership:
The lessee will not become the owner of the asset at the end of lease agreement
 Inflation Friendly: unless he decides to purchase it.
Leasing is inflation friendly, the lessee has to pay fixed amount of rentals each
year even if the cost of the asset goes up.  Costly:
Lease financing is more costly than other sources of financing because lessee has
 Ownership: to pay lease rental as well as expenses incidental to the ownership of the asset.
After the expiry of primary period, lessor offers the lessee to purchase the assets
— by paying a very small sum of money.  Understatement of Asset:
As lessee is not the owner of the asset, such an asset cannot be shown in the
Disadvantages: balance sheet which leads to understatement of lessee’s asset.

Lease financing suffers from the following disadvantages

A. To Lessor:
Lessor suffers from certain limitations which are discussed below:

 Unprofitable in Case of Inflation:

  Liquidity risk (inability to meet short-term obligations)

 Market risk (fluctuations in interest rates, currency, or stock prices)

RISK MANAGEMENT -MODULE 8  Investment risk (losses from poor investment decisions)
 Impact: Can lead to cash flow problems, losses, or bankruptcy.
Risk-is an uncertain event that may have a positive or negative impact on the
project 4. Compliance and Legal Risks
Risks arising from violations of laws, regulations, or contractual obligations.
Risk Management-is the process of identifying and migrating risk.
Examples:
Organizations face a variety of risks that can impact their operations,  Non-compliance with labor, environmental, or tax laws
financial stability, reputation, and legal standing. These risks can be broadly  Breach of contracts
categorized as follows:  Intellectual property disputes
 Impact: Can result in fines, lawsuits, or reputational damage.
1. Strategic Risks
Risks that arise from high-level decisions affecting the organization's 5. Reputational Risks
long-term goals. Risks that affect how the organization is perceived by customers, investors, or
Examples: the public.
 Poor business strategy or planning
 Mergers or acquisitions that fail Examples:
Impact: Can lead to reduced market share, loss of revenue, or business failure.  Poor customer service experiences
 Product recalls or safety issues
2. Operational Risks Impact: Loss of customer trust, declining sales, or damage to brand value.
Risks arising from internal processes, people, and systems.
Examples: 6. Environmental and External Risks
 System failures or IT outages Risks caused by external events beyond the organization's control.
 Supply chain disruptions Examples:
 Human errors or employee misconduct  Natural disasters (earthquakes, floods, typhoons)
 Production or service delivery delays  Political instability, wars, or terrorism
 Economic downturns or market volatility
Impact: Can result in financial loss, decreased productivity, or service  Impact: Disruption of operations, increased costs, or decreased demand.
interruptions.
7. Technological Risks
3. Financial Risks Risks related to technology adoption and cybersecurity.
Risks related to financial transactions, funding, or investments. Examples:
 Cyberattacks, hacking, or data breaches
Examples:  Outdated technology or system incompatibility
 Credit risk (customers or clients defaulting)  Failure to innovate
Impact: Loss of sensitive data, operational disruption, or competitive This can be beneficial for a company if a transferred risk is not a
disadvantage. core competency of that company. It can also be used so a
Risk Mitigation (Risk Reduction) – the process of taking actions to company can focus more on its core competencies
reduce the likelihood or impact of a risk so that even if it occurs, the
damage is minimized.

Example: Installing fire alarms and training employees to prevent or HOW TO APPLY THE MITIGATION RISK
minimize fire damage in a factory.
Avoid the risk: The company can avoid the risk of a
4 TYPES OF RISK MITIGATION cybersecurity breach by
refraining from using certain technologies that are
1. Risk Acceptance vulnerable to
hacking or minimizing its usage. The organization can also
Risk acceptance does not reduce any effects however it is still limit access to
considered a strategy. This strategy is a common option when the certain data or systems to minimize the avenues that a
cost of other risk management options such as avoidance or
hacker or malicious actor can use to gain access to sensitive
limitation may outweigh the cost of the risk itself. A company that
doesn’t want to spend a lot of money on avoiding that do not information or infrastructure.
have a high possibility of occurring will use the risk acceptance
strategy. Reduce the risk: The company can reduce the risk of a
cybersecurity breach
Example: A small shop accepts the risk of occasional minor theft by investing in cyber security measures such as encryption,
instead of spending a lot on security cameras. firewalls, and
stronger passwords. The company could also conduct
2. Risk Avoidance security assessments on a regular basis to identify
vulnerabilities and patch them in time.
Risk avoidance is the opposite of risk acceptance. It is the action
that avoids any exposure to the risk whatsoever. It’s important to
note that risk avoidance is usually the most expensive of all risk
Transfer the risk: The company can transfer the risk of a
mitigation options. cybersecurity
breach to third-party vendors or external service providers
3. Risk Reduction – The process of implementing measures to who have specialized expertise in managing cybersecurity
lower the likelihood or impact of a risk, so that even if it occurs, risks. By using the services and solutions provided by these
the damage is minimized. vendors, the company can shift some of the risk to them,
while maintaining overall oversight of cyber security
4. Risk Transference capabilities through close monitoring and audit.
Risk transference is the involvement of handing risk off to a Accept the risk: Despite all these prevention and safety
willing third party. For example, numerous companies outsource
measures, it may
certain operations such as customer service, payroll services, etc.
not be possible to eliminate the risk of a cybersecurity
breach entirely. In that case, it is important for the
organization to accept some level of risk and implement
plans to respond effectively to a security incident. This could
include response and recovery plans and using technology
to detect threats
and malicious activity as soon as possible.

WHAT IS MANAGEMENT INTERNATIONAL RISK?

Management of International Risk refers to the process

of
identifying, assessing, and controlling risks that arise when
a
business operates across countries. These risks are more
complex
than domestic risks because of differences in politics,
economy,
culture, and regulations.

TYPES OF INTERNATIONAL RISK

1. Political Risk –changes in government, laws, or

policies that affect business.

Example: Expropriation of assets, trade restrictions.

2. Economic Risk – fluctuations in exchange rates,

inflation, or economic instability.

Example: Currency devaluation affecting profits.

 3. Legal/Regulatory Risk – differences in laws,
regulations, or enforcement across
countries.

Example: Compliance with foreign labor laws or tax

regulations.

4. Cultural Risk – misunderstandings due to

language, traditions, or
business etiquette.

Example: Marketing campaign fails because it offends local

customs.

5. Operational Risk – risks related to supply chains,

logistics, or local
infrastructure.

Example: Delays in importing raw materials due to port

closures.