EVALUATION OF FINANCIAL LEASE

&
GOVT POLICY

PRESENTED TO PRESENTED BY..

DR. SUDHANSHU PANDIYA JYOTI MAURYA
ASSOCIATE PROF.OF IBM MBA (FT) 4TH SEM
CSJMU KANPUR STUDENT OF IBM
 EVALUATION OF
FINANCIAL LEASES
Relevant cash flow must be estimated to determine the
economic desirability of leasing versus purchasing an asset
The lessee avoids the initial outlay of capital required in
purchasing the asset but subsequent costs are incurred
including:
1. direct cash outflows associated with the lease contract
periodic lease payments minus taxes

2. opportunity costs associated with not owning the asset

 CONTD..
Leasing as a form of debt financing
lease and debt financing affects a firms financial position in the
way they are committed to fixed payments before any earning
are accrued to shareholders
Framework for discounted cash flow analysis
both NPV and IRR can be used to analyse leases
if IRR > than after-tax borrowing cost, borrowing is preferred

and vice versa

if NPV of the leasing cost is > than the asset value, borrowing is

preferred and vice versa

EVALUATION OF
FINANCIAL LEASES
Residual value
when evaluating whether to lease or purchase an asset, we
have to charge a lease with the loss of any residual value
The present value of net benefit from salvage is equal to:

S n S n dT 1
(1 k ) n
(1
residual values
k )are ( d
often
r )
difficult
to estimate
because a
judgmental risk-adjusted discount rate needs to be applied
 EVALUATION

The effective cost of a lease is given by its internal rate of return

(IRR). The IRR is compared to the after-tax interest cost of a
term loan, and the alternative with the lower cost is preferred.
The leases net present value (NPV) is given by:
NPV leasing =
+ purchase price of asset
- present value of after-tax lease payments
- present value of tax saving from lost capital cost allowance
- present value of lost net benefits from residual value
 EVALUATION..
The discount rate employed in calculating the
NPV is the after-tax interest cost on a comparable
term loan. A higher, risk-adjusted discount rate,
however, may be appropriate for the residual
value.
CONTD.

Other considerations that may play a role in

evaluations of leasing and borrowing include
differences in payment provisions (fixed
versus variable payments), organizational
restrictions regarding capital acquisitions, and
differences in the flexibility afforded.
GOVT POLICY FOR LEASE FINANCING..

A bank should adopt prudent policies and

procedures in accordance with the existing
regulations and policy guidance, and should
closely monitor its compliance with such policies.

The banks board of directors should review and

approve such policies and procedures on a timely
basis.
CONTD
The policies, processes, and control system used by
management and the board of directors to engage
in leasing activities should be similar to those used
to manage other types of lending products.

Leasing activities should be included in a banks

audit program as part of the institutions system of
internal control and risk management.