EUROPEAN LEASING An Industry Prospectus

Ten Reasons to Invest in Leasing

1. Unique business models based on asset ownership

2. Resilience and stability in times of economic crisis

3. Low cost/income levels

4. Low cost of risk, in line with provisions

5. Consistently profitable business

6. Flexibility to manage changes in funding & liquidity costs

7. Leasing is extremely capital efficient

8. Strong internal controls tailored to deal with asset specificity

9. Asset ownership ensures few defaults and low losses

10. Asset expertise and management are the core of leasing

2

CONTENT

Purpose of this document ............................................................................................................................................... 4

About European leasing ...................................................................................................................................................... 5 What is leasing

European leasing market

Leasing to European SMEs

Key features of the European leasing industry ................................................................... 8 1. Unique business models based on asset ownership ....................................................................... 8

2. Resilience and stability in times of economic crisis .................................................................... 11

3. Low cost/income levels ................................................................................................................................................ 13

4. Low cost of risk, in line with provisions ...................................................................................................... 14

5. Consistently profitable business ....................................................................................................................... 15

6. Flexibility to manage changes in funding & liquidity costs ............................................... 17

7. Leasing is extremely capital efficient ........................................................................................................... 18

8. Strong internal controls tailored to deal with asset specificity ...................................... 19

9. Asset ownership ensures few defaults and low losses .............................................................. 20

10. Asset expertise and management are the core of leasing .................................................... 22

Data Sources ........................................................................................................................................................................................... 24 Overview

Presentation of the Leaseurope Index

Benchmark sources (OECD, Eurostat/AMECO & ECB)

Leaseurope Index Glossary ..................................................................................................................................... 26 Definitions

Ratios

Contact ................................................................................................................................................................................................................ 273

PURPOSE OF THIS DOCUMENT

This document describes the

business models and value-

addition of the European leasing

industry, with an emphasis on the

features that make it an attractive

investment proposition.

It analyses the industry's

performance and returns over

recent years, contains information

proving that leasing is a capital

efficient activity and provides

an overview of industry risk

management practice.

Data from the Leaseurope Index

and Annual Survey are used to

quantify the leasing sector, while

banking figures from the OECD

and Eurostat are used to quantify

traditional lending. Wherever

possible, leasing figures are

compared to traditional lending

figures in order to show the

leasing industry in a comparable

context. In addition, the findings

from the Deloitte reports Implicit

Risk Weights for SME Leasing

in Europe and The Risk Profile

of Leasing in Europe: The Role

of the Leased Asset have been

integrated.

All of this information is distilled

into ten key reasons why leasing

is a good investment, with

supporting data and analysis.

Disclaimer

Deloitte Conseil SAS France was commissioned by Leaseurope to produce a Deloitte point

of view paper on European Leasing: An Industry Prospectus. Data presented in the report

were obtained from sources which we considered reliable and coherent. Deloitte Conseil

has retained a strictly independent and impartial view in the creation of this report and

the conclusions presented therein are, and will remain, those of Deloitte. Consequently,

Deloitte Conseil shall not have any liability to any third party in respect of this report

or any actions taken or decisions made as a consequence of the results, advice or

recommendations set forth herein.4

What is leasing?

A lease is a contract whereby a

leasing company (known as a

lessor) makes an asset it owns

available to another party (called

a lessee) for a period of time and

in exchange for payment. Across

Europe, a range of different types

of contractual agreements fall

under the notion of leasing.

The common feature of all these

arrangements is that the lessor

retains ownership of the leased

asset throughout the contract

term. It is the inbuilt security

provided by the retention of

ownership rights that allows

lessors to provide businesses with

the use of assets in situations

where traditional loans to obtain

equipment would not be available

to these firms.

Almost any type of physical asset

can be leased, as can certain

intangible assets. Examples

of leased assets include: plant

and manufacturing equipment,

IT equipment and software,

printers, photocopiers and

telecommunication equipment,

construction and logistics

equipment, vehicles and other

means of transport, medical

equipment, renewable energy

equipment, infrastructure, utilities

and property, to name but a few.

Leasing companies can be

banks, bank-owned subsidiaries,

independent firms or the financing

arms of manufacturing companies,

known as captive lessors. Leasing

is used by businesses of all sizes

and the public sector (e.g. leasing

to schools, hospitals, etc.) to

obtain the use of assets. According

to Leaseurope calculations, the

majority of leasing is for SME

clients, with SMEs accounting

for approximately 50% of all

new leasing business. Leasing is

easy to access and is distributed

via many channels; for instance

through retail banking networks,

directly from leasing companies,

through brokers or from vendors

and dealers of assets at their point

of sale.

Leases fit on a continuum ...

The leasing industry dynamic

Leasing company

Asset supplier

Payment for asset

Asset title (lessor has ownership)

Rental payments

Right to use the asset

Customer

Funder

finan

ce

serv

ice

... with most leases being a combination of an asset finance

and service solution

... financing the use of an asset

... providing an asset-related service solution

ABOUT EUROPEAN LEASING

5

Leasing allows businesses and

other types of lessees to manage

their working capital more

effectively by spreading payments

for the use of the asset over the

contract period. It also allows

clients to finance 100% of the

purchase price of the asset without

requiring additional collateral.

Asset ownership also makes

a lease an ideal product for

securitisation. With regular

income flows from the lease

contract combined with the

additional security provided by

the underlying physical asset,

lease contracts are well suited to

creating low risk ABSs.

European leasing market

Leasings economic importance

lies in the fact that it is a major

source of investment support for

European businesses. In 2012,

European lessors granted new

leases worth almost 253 billion

and the portfolio of leased assets in

their hands at the end of that year

was worth almost 732 billion,

according to Leaseuropes Annual

Survey. In 2012, leasing enabled

20% of all equipment investment

in Europe.1

By helping its clients to invest

more, leasing can foster greater

economic growth. Oxford

Economics finds that a relatively

small increase in the uptake of

leasing would create an important

boost in European GDP growth.2

Leasing to European SMEs

According to Eurostat, one of

the main reasons SMEs report

as creating difficulties in their

accessing financing is their

inability to provide sufficient

collateral or guarantees to the

lender.3 In comparison to other

forms of finance, leasing is ideally

positioned to assist SMEs as it

allows them to finance up to the

full purchase price of an asset

without requiring any collateral

because the leased asset being

leased is the collateral. For start-

up SME that do not have a strong

credit history, for those who

may not be in a position to post

collateral, or for SMEs in sectors

that are generally perceived as

being riskier, leasing is particularly

advantageous in comparison to

other types of finance.4 Leasing

also caters well to the needs of

very small firms (micro entities)

which form the category of small

business that suffers the most

from a lack of access to finance.

Lastly, while some forms of finance

are better suited for companies

that are at a certain point in their

lifecycle, leasing is appropriate for

use throughout the lifespan of any

SMEs business.Total new business volumes

by asset type (%) - 2012

Real estate

Machines & equipment

CVs

Cars

ICT

Big/other

43%7%

16%

6% 17%11%

253 billion

Total equipment volumes

granted by client type (%) - 2011

28.1%17.2%

4.5% 1.6%

48.5%

Corporate

SME

Consumer

Public sector

Unknown

Source: Leaseurope Annual Survey & Oxford Economic

Fina

nce

need

Shor

t te

rm

(ST)

Younger / smaller /no collateral / no credit history

Long

ter

m

(LT)

Older / Larger / known risk and track record

SME lifecycle

Leasing

Private equity

SME banking

Trade financeMicrofinance

SME finance landscape

1 Leaseurope calculation based on new equipment leasing volumes as a percentage of GFCF for equipment.2 Oxford Economics (2011) The Use of Leasing Amongst European SMEs.3 Eurostat (2011) Access to Finance Statistics.4 European Investment Fund (2012) The importance of leasing for SME finance

6

Leasing has been a constant

source of support for millions of

European SMEs, providing finance

during times of crisis. Around

40% of all European SMEs make

use of leasing, which is more

than any other individual form of

lending.5 Additionally, according

to the OECD, it is the financing

source with the highest rate of

successful applications amongst

SMEs.6 Studies have shown that

the majority of small businesses

witness an increase in their

business as a result of leasing.7

Additionally, SMEs that use leasing

invest on average 57% more

than those who do not.8 Leasing

is therefore not only a reliable

source of support for SMEs even

in the most uncertain economic

conditions, but it also contributes

to the success of their businesses

and helps them increase their

investment levels.

2010 2007

Int'l trade or export finance

Advanced payments (by customers)

Trade credit (by suppliers)

Bank overdraft or credit line

Factoring

Leasing

Bank loans

0 20 40 60 80 100Application success rate

SME Application Success Rates (OECD)

5 Oxford Economics (2011).6 OECD (2012) Measuring Entrepreneurial Finance: A European Survey of SMEs.7 European Bank for Reconstruction & Development EBRD (2011) Special Study: Banks Leasing Operations

(Regional).8 Oxford Economics (2011).

7

Much more than a financial service a complete asset solution

Leasing companies dont just fund

assets. They build comprehensive

asset solutions for their clients,

meeting both their financial needs

and operational requirements in

one packaged product. Lessors

can take on and manage residual

value risk so their clients need not

worry about second hand asset

values. They are also able to work

in partnership with a network

of various service and asset

specialists, integrating their skills

into a seamless leasing solution

for the client. At the macro level,

because lessors possess in-depth

asset knowledge, leasing allows for

more efficient resource allocation

compared to when a client owns

an asset outright. Lessors may also

offer other financial products in

some cases financing the entire

value chain of their corporate

clients, including stock and floor

plan financing, factoring services

and other loans.

A variety of business models that adapt to clients specific needs

A range of business models can

be found within the European

leasing industry. These depend

on the leasing firms strategy and

market position and may often be

combined to best address client

needs.

The specialised finance model

refers to independent finance

companies or bank owned

leasing companies who position

Basic business model

Function Features Distribution channel

Specialised Finance

Alternative source of finance to banks/bank loans

Independent finance companies or bank owned leasing companies

Direct/ brokers

Vendor Supports manufacturer sales

Leasing company (Independent or bank owned) accompanies the development of their manufacturer and dealer clients by providing sales finance support

Point of sale

Product Additional service for bank clients

Leasing is part of a range of financial solutions provided by a bank to its clients, when this is the product that best suits the clients financing needs

Banking networks

Captive Support a brand Financing arm of a manufacturer

Point of sale

Asset specialist

Specialises in asset risk managements

Focuses its business on specific asset categories, building asset expertise and taking on residual value risk

Direct/point of sale

1. UNIQUE BUSINESS MODELS BASED ON ASSET OWNERSHIP

8

leasing as an alternative source

of finance to bank loans. In these

cases, business is done directly

or through brokers. The product

model is usually carried out

by a bank or a bank owned-

leasing company. Here, leasing

is viewed as being one of a range

of financial solutions that can be

provided by a bank to its clients

through the banking network. The

vendor model involves a leasing

company (either independent

or bank-owned) supporting the

sales of their manufacturer or

dealer partners. Here the leasing

company accompanies the

development of manufacturer and

dealer clients by providing sales

finance support and other services

such as back-office support and

sales staff training. While the

lease is funded by the 3rd party

lessor, these programmes can

still be manufacturer branded

and the leases will granted by

the manufacturer at their point

of sale. The captive model is

similar but the lessor (funder) in

this case is the financing arm of

a specific manufacturer or dealer

and supports that particular brand

by providing lease solutions at the

point of sale. The asset specialist

model focuses on leasing specific

asset categories (often car, trucks,

IT solutions, etc.), building asset

expertise and taking on residual

value risk as an integral part

of their business model. These

companies specialise in asset risk

management and either provide

their services directly or at the

point of sale.

This wide variety of business

models, and leasing companies

capacity to combine and adapt

them, means that they are in a

uniquely flexible position to match

their product offer to client needs.

Additionally, lessors can choose

to focus on leasing specific assets,

such as vehicles or IT equipment

for instance, or remain generalists

providing all types of assets. They

may also make use of a wide range

of distribution channels, including

banking networks, manufacturer/

dealer points of sale, brokers and

direct sales.

A lease is a multipartite relationship supporting asset manufacturers, supplier sales, and the asset needs of end-user clients

Bank-owned or independent

lessors (also known as third party

lessors) will typically work with

a range of asset suppliers, either

with manufacturers or with their

distribution networks and dealers.

The close partnerships they forge

enable mutual added-value

exchanges, such as information on

asset values for the lessor, or back-

office functions such as collections

management for the supplier.

Captive leasing companies support

their parent companys sales, and

can cooperate with third party

leasing companies for the provision

of certain services, including

funding, if that will better suit their

clients needs.

Clients can either decide

themselves which asset best suits

their need or, if theyre not sure,

turn to the leasing company for

advice. They can also rely on the

The wide variety of business

models, and leasing companies

capacity to combine and adapt

them, means that they are in a

unique position to match their

product offer to client needs

9

leasing company to take care

of asset-related services, such

as consumables, spare parts,

software, insurance, and asset

replacements.

When it comes time for the asset

to be replaced or upgraded, the

client can easily turn to the lessor

for this without any interruption in

the services provided. For lessors,

this ensures a very stable client

base, with a high degree of repeat

business and an uninterrupted

stream of income flows.

Multiple and diversified sources of income through the provision of services

Leased contracts are modular

products, where multiple service

components can be packaged

together into a single monthly fee

for the client. The total fee thus

covers the use of the asset itself, as

well as its insurance, maintenance

and many other services. In

addition to asset-related end-

user client services, lessors who

partner with manufacturers are

able to provide these vendors with

tools such as back-office support,

reporting or collection services.

Lessor-vendor relationships also

often give rise to bulk discounts

or subsidies for the lessors from

manufacturers, which in turn can

be passed on to clients in the form

of lower rentals.

The chart below summarises the

variety of income streams lessors

can benefit from.

Multiple income sources

Early termination fees

Discounts/subsidies from the asset supplier

Services to vendor partners (back-office, collection)

Service-related income (maintenance, replacement, insurance, etc.)

Residual value gains

10

A resilient business

The leasing business is

impressively resilient. While

European leasing activities have

not been immune to the adverse

economic conditions of past years,

the business has been much less

affected than general banking

activities. Over the 2009-2012

period the European leasing

portfolio9 remained broadly stable,

while classic lending product

outstandings decreased. A slight

reduction in the lease portfolio

was seen in 2012, but this was

far less severe than for European

bank loans in the same year.

Comparing the 2009-2012

Leaseurope data for total new

European business volumes

for equipment leases10 with

gross fixed capital formation

for equipment provides an

additional perspective on the

stability of European leasing

through the economic cycle.

As show in the graph above,

new lease production usually

follows the same path as total

equipment investment in the

overall economy. However,

it actually exceeded total

equipment investment in 2011

and 2012, implying that leasing

was responsible for financing

a greater share of investment

in these difficult years. Lastly,

leasing support real investment,

is popular amongst businesses

(SMEs and corporates) and lease

contracts are mostly medium-

term in length, features which

further contribute a certain

stability to the business model.

2. RESILIENCE AND STABILITY IN TIMES OF ECONOMIC CRISIS 9 Source : Leaseurope Index10 Source : Leaseurope Annual Survey

Leasing vs. banks lending activity (Index = 100)

110

100

90

80 09 10 11 12 full year full year full year full year

Leasing portfolio (Source: Leaseurope Index) Bank portfolio (Source: OECD)

Leasing new business growth vs. gross fixed capital formation growth

20%

10%

0%

-10%

-20%

-30% 01 02 03 04 05 06 07 08 09 10 11 12

European Union (27 countries) Euro area (17 countries) Leasing-Equipment

11

Income resilient to reductions in new volumes

The leasing industry has also

demonstrated the capacity

to maintain income levels in

tough economic conditions as

evidenced over the 2009-2012

period when its new business

volumes declined by 5.29%, but

its operating income increased by

13.53%. This can be attributed

to the unique characteristics

of the leasing business model

discussed above. Moreover,

leasing company turnover tends

to be structurally stable due to a

positive time lag between leasing

income and the evolution of new

business. Moreover, lease income

includes interest income as well as

additional fee and service income

which are spread linearly over

the life of the lease contract (as

opposed to interest income which

decreases over the contract life).

Strong revenue in crisis periods compared to classic banking

A comparison of Leaseurope figures

with ECB statistics on medium-

sized banks shows that lessor and

bank operating income levels have

diverged significantly. Medium-

sized banks operating income

decreased considerably between

2009 and 2010, while lessors

steadily increased theirs between

2009 and 2011. This probably

reflects the deep deleveraging

medium-sized banks went through

up to 2010. Despite this however,

European lessors were able to

manage the impact of the liquidity

crisis more efficiently (see point 6)

Leasing vs. banks operating income (Index = 100)

120

115

110

105

100

95

90

85 09 10 11 12 13

Leasing Medium-sized banks (source: ECB)

Over the 2009-2012 period, the

European leasing portfolio remained

broadly stable, while classic lending

product outstandings decreased

12

Stable cost/income compared to classic banking

The leasing industry has

managed to keep their cost/

income ratio stable over what has

been a very challenging 5 year

period. Varying between 45% and

50%, this level of cost/income is

consistently lower than that of

classical banking and is evidence

that leasing firms commercial

revenues are strong and stable.

Moreover, it shows that lessors

manage their costs proactively.

Between 2009 and 2012,

medium-sized banks total cost/

income ratio increased by 9.6

percentage points, while over the

same period leasings cost/income

ratio decreased by 0.2 percentage

points.

This stability in leasing cost/

income can be traced back to

the fact that any slowdown

in operating income growth is

mirrored by an equal or greater

slowdown in cost growth. For

example, in 2013 operating

income increased by 1.2% while

operating expenses decreased by

-2.4%, a testament to the leasing

industrys capacity to adjust

their expenses to their forecasted

income quickly.

Several different factors help to

explain why leasing cost/income

is so stable, particularly in relation

to classic banking. Firstly the

nature of structural costs are

different from those of classical

banks, for instance, lessors do

not have their own network of

bank agencies. The monoline

nature of lessors means that by

definition they specialise and can

put in place more focussed and

efficient processes than universal

banks, helping to keep costs low.

Secondly, lessors enjoy a diversity

of income sources with many

benefits compared to classical

banking (see point 1). These

include a higher share of non-

interest income (fees and services)

and interest margins may also be

higher.

Leasing vs. banks cost/income (%)

70%

60%

50%

40%

30% 09 10 11 12 13

Leasing Medium-sized banks (source: ECB)

3. LOW COST/INCOME LEVELS

Between 2009 and

2012, medium-

sized banks total

cost/income ratio

increased by 9.6

percentage points,

while over the same

period leasings

cost/income ratio

decreased by 0.2

percentage points

13

Cost of risk for the leasing industry

is appropriate and remains quite

low over the period, varying

between 0.65% and 0.9%.

These figures are particularly low

in comparison to ECB banking

figures, which reached 1.95% in

2012.3 The evolution of leasings

cost of risk is mainly due to the

volatility of loan loss provisions,

since the average portfolio

remains stable over the period

(variation of less than 1% over the

period). Low loss provisions are

due to low leasing loss rates as

discussed in point 7.

Moreover, the cost of risk for

leasing has remained much more

stable than that for medium-

sized banks. The leasing figure

decreased by 0.13 percentage

points between 2010 and 2012

while the bank figure escalated by

0.74 percentage points over that

time. This indicates that European

lessors generally hold a better

quality portfolio than mid-sized

EU banks.4. LOW COST OF RISK, IN LINE WITH PROVISIONS 11 ECB cost of risk is calculated as Impairments loans and receivables in the income statement / Assets Loan and receivables

Leasing vs. banks cost of risk (%)

2.0%

1.5%

1.0%

0.5%

0.0% 10 11 12 13

Leasing - weighted average value Leasing - median value Medium-sized banks (source: ECB)

European lessors generally

hold a better quality portfolio

than mid-sized EU banks

14

Growing profitability levels

The profitability of the European

leasing industry is relatively

high and has managed to stay

out of negative territory despite

the recent crisis, remaining in a

range of approximately 20% to

30% between 2009 and 2013.

This contrasts sharply with the

profitability levels of medium-size

banks, which are substantially

lower and have steadily declined

from 2009, reaching an all-time

low of -30% in 2013.

Despite the challenging economic

conditions of the last few years,

including stalling new business

and rising loan loss provisions,

European lessors have managed

to not only maintain profitability,

but enjoy increases. Average

annual profitability increased from

2009 and 2013, dropping slightly

from 2011 to 2012, due to a rise

in cost of risk for a small number

of companies. The median ratio

however, which represents the

typical leasing firm in the data

sample, continued to increase

steadily. Profitability is partially

immune to any pressures on

new volumes and consistently

outperforms this metric: for

example, new business increased

by 0.8% from 2012 to 2013

whereas profitability increased at

a much higher rate of 7.2% over

the same period.

Net profits high compared to risk-weighted assets

Other important KPIs include

return on equity and return on

assets. Given a lack of information

sources on leasing company

equity levels, we proxy equity by

using regulatory capital for credit

risk fixed at 8% of risk weighted

assets. We use this Return

on Regulatory Requirements

(RORR) as a measure of the

structural profitability of the

leasing business. Net profits

are high when compared to the

risk-weighted assets of leasing

companies, with the weighted

average RORR varying between

15% and 17% over the period

and median RORR increasing to

24% in 2013. These high levels

of RORR imply that the European

lessors have room to build up

reserves, enhance the quality of

5. CONSISTENTLY PROFITABLE BUSINESS

Leasing vs. banks profitability (%)

40%

30%

20%

10%

0%

-10%

-20%

-30%

-40% 09 10 11 12 13

Leasing - weighted average value Leasing - median value Medium-sized banks (source: ECB)

15

their own funds by increasing

the level of Core Tier 1 capital

and reinforce the level of their

own funds in general, should

their RWAs increase. Leasing is

therefore well placed to meet

incremental requirements of the

Basel 3 framework.

In addition, the leasing industrys

return on assets (which in this

case is a return on leased assets

or ROLA) remained relatively

stable between 2010 and 2013,

between 0.8% and 1% for the

weighted average ratio and

slightly higher for the median. It

is important to put the level of

this ratio into perspective. Lease

contracts typically last for around

4 years and are thus medium-

term contracts, where annual

ROLA only covers on average a

quarter of the return on a leasing

contract. In contrast, medium-

size banking contracts will cover

a much wider portfolio of different

durations, including short term

lending.

Return on regulatory requirements (%)

30%

25%

20%

15%

10%

5%

0% 10 11 12 13

Leasing - weighted average value Leasing - median value

Return on leased assets (%)

1.4%

1.2%

1.0%

0.8%

0.6%

0.4%

0.2%

0.0% 10 11 12 13

Leasing - weighted average value Leasing - median value

Despite the challenging economic

conditions of the last few years,

European lessors have managed

to not only maintain, but enjoy

increases in profitability

16

The sources of funding for European lessors typically depend on their business models and ownership structures:

1) Liquidity and funding are

managed centrally at the

parent company level

Bank-owned leasing companies

benefit from the various sources

of liquidity and funding of their

parent company (deposits,

direct loans, inter-bank markets,

access to ECB refinancing, etc.).

2) Liquidity and funding is

directly managed by the

leasing company (independent

funding

This funding model involves

diversified means and

instruments of funding,

combining long-term assets

with good returns to target

long-term investors. Favoured

instruments include:

securitisation programs

bond issuance programs

EIF/EIB funding support and

specific financing programs

with clients.

In the context of Basel 3

implementation, an increase in

the cost of funding and the need

to seek new funding sources is

expected to occur across the entire

spectrum of the financial services

industry. Leasing companies,

including bank-owned firms, just

like all financial industry players,

are looking to find alternative

sources of funding (capital markets,

institutional investors, etc.).

Securitisations are a particularly

promising funding tool for the

leasing industry. They provide

investors with additional security

thanks to the presence of the

leased asset underlying each

individual lease contract in the

securitisation. As the securitisation

market picks up, we expect to see

increasing volumes of SME-lease,

auto-lease and other lease backed

transactions. Like other market

players, lessors also have to deal

with the issue of funding becoming

increasingly local with liquidity

having a tendency to concentrate

in country/regional pockets.

The flexibility to manage funding/liquidity costs

With base rates currently being

quite low and margins performing

well, the cost of funding/liquidity

has not been a major issue so far

for many lessors. This is because

leasing companies benefit from

income flexibility that is simply not

available to other types of players,

rendering them less sensitive to

these general increases in funding/

liquidity costs.

While bank parent companies or

other funders normally pass on

any increased cost of funding/

liquidity they experience to leasing

companies, lessors themselves

are often able to pass this on via

new business. Lessors can also

rely on adjustment mechanisms

built into the existing portfolio. For

instance, the service elements of

leases can be linked to an index

that fluctuates according to costs.

On top of interest and service

income, lessors also earn income

on residual values, which are part

of the original structure of the

contract.

6. FLEXIBILITY TO MANAGE CHANGES IN FUNDING & LIQUIDITY COSTS

Leasing

companies benefit

from income

flexibility that

is simply not

available to other

types of players

17

The unique feature of a lease is the

lessors ownership of the leased

asset.

These ownership rights provide

lessors with an extremely valuable

and efficient form of in-built

security which makes leasing

extremely low-risk and thus

capital efficient. Asset ownership

represents a major advantage for

lessors compared to other financial

products such as traditional loans,

which are typically not secured

on physical assets but rather with

financial collateral or personal

guarantees.

Our recent reports Implicit Risk

Weights for SME Leasing in

Europe and The Risk Profile of

Leasing in Europe: The role of the

leased asset demonstrate that

default and loss rates for leases

are significantly lower than for

traditional lending. According

to the latter study, which was

based on a portfolio of 3.3 million

lease contracts in 15 European

countries, loss rates on Corporate

and Retail SME exposures were

19.3% and 25.6% respectively.

This compares very favourably to

the figures of the EBAs EU-wide

2011 stress test where equivalent

loss rates for Corporate and Retail

SME lending were 31% and 36%

respectively.

Why are lease default rates low?

Default rates within the leasing

activity are low because the leased

asset is crucial to the clients core

business activities. Businesses

therefore prioritise lease payments

because they need these assets to

run their business.

Why are lease loss rates low?

As the asset is a key working tool

for the lessee, many defaulted

leases regrade to a healthy

situation with a zero loss.

Additionally, ownership of the

asset makes repossession fast and

straightforward for the lessor (if it

is necessary at all). The lessor can

then sell or re-lease the asset in

order to decrease any losses on

the default. If the value of the asset

exceeds the amount outstanding

at default, the lessor would

actually make a gain in the case of

a default.

Capital requirement regulation

(CRD4/CRR) recognises the low risk

nature of leases, particularly under

the advanced internal ratings

based approach.

There are additional capital

benefits for leases beyond those

described above. With more

than half of all leasing volumes

being granted to SMEs, lessors

benefit from the scaling factor

(reduction) in risk weights applied

by the European legislator to SME

exposures in the context of the

CRD4/CRR.

7. LEASING IS EXTREMELY CAPITAL EFFICIENT

Default and loss

rates for leases are

significantly lower

than for traditional

lending

18

The focus of lessors on assets (e.g.

valuation, tracking, repossession,

re-marketing) as well as on their

clients (e.g. their knowledge of

asset distribution chains or the

development of credit policies)

has led to the development of

a specific control culture within

leasing companies. Lessors are

also acutely aware of the need to

ensure sound reporting, monitoring

and controls in order to maintain

transparent business relationships

with their owners, regulators,

clients and other partners. In

addition to the organisational and

management benefits of controls,

lessors are able to leverage

these skills to offer sophisticated

reporting tools to their vendor or

service partners. This information

provides partners with added-

value, in-depth insight into the

behaviour of their clients that they

would not otherwise have access

to.

Controls in the leasing businesses are ensured through various means:

Internal procedures and controls

Controls by the internal audit function

Reporting to the parent company: control of data and analysis

External audit

Supervision by regulators

Communication with partners

(asset manufacturers, service providers, etc.)

The following chart looks at the typical internal procedures and controls

leasing companies put in place. They are usually built on five main pillars:

* The asset management function is responsible for modelling

asset value curves for each asset category

** Details on credit and asset risk policies are found below:

Lease origination:

Instructions and limits for residual values and contract durations

Controlling the purchase price compared to the underlying assets

market value

Contract management:

Monitoring the value of the asset and its evolution over time

Controlling and updating asset value assessment curves

Breach of contract:

Controlling second-hand market prices and costs relating of the

assets resale

8. STRONG INTERNAL CONTROLS TAILORED TO DEAL WITH ASSET SPECIFICITY

Three levels of control Direct management Risk functions Internal audit

Independence of sales, asset management* and risk management functions

Backtesting of estimated exposure and residual values with observed historical data

Special committees dedicated to monitoring and improving asset management

Credit and asset risk policies for each asset and each market**

The focus of lessors on

assets, as well as on

their clients, has led

to the development

of a specific control

culture within leasing

companies

19

Pre-default management

Lessors are able to use a variety of

tools to avoid default situations.

Firstly, they have the ability to

share risk with their customers. For

example, when second hand asset

prices suddenly decrease, lessors

can negotiate contract extensions,

formally or informally, and avoid

potential losses. When contracts

are extended, not only do asset

values have time to recover, the

client is also paying for additional

use of the asset. Extensions will

be designed so that (revised)

expected future market value will

be sufficient to cover the lessors

remaining asset exposure. Clients

benefit from this strategy too as

they are obtaining prolonged

use of an asset they know for a

cheaper price.

Lessors also benefit from a certain

amount of leverage vis--vis

customers simply through their

ability to exercise their ownership

rights and repossess the leased

asset in default situations.

Ownership rights serve as deterrent

to the client defaulting in the first

place.

Moreover, lessors proximity

to and understanding of their

clients business means they have

early insight into any potential

difficulties their customers may

face. Since rentals are (typically)

monthly payments, any

missed lease payment is a red

light. Lessors also benefit from

early warning signals through

partnerships with vendors and

service providers should any

missed payment of other services

or fees occur.

Bank-owned lessors are also in

the unique position to provide

their banking groups with early

warning signals on the behaviour

of group clients. While increases

in bank credit lines could be

due to a number of factors, if a

client struggles to make a lease

payment, despite the importance

of the asset to their business,

they are likely to be in financial

difficulty.

Default management

Leasing companies have two

routes at their disposal to manage

defaults.

1) If a low recovery amount is

expected on the asset, the best

outcome is to get the contract

to regrade.

In such cases, the client needs

to be assessed in terms of

how important the asset is in

running their business and

their probability of regrading.

As discussed earlier, altering

the duration or terms of the

contract in order to keep

contracts performing can be

beneficial to both the leasing

company and the client.

According to our research,

around 60% of defaulted lease

contracts return to a healthy

position.

2) If a regrade is unlikely, and/

or high recovery amount is

expected on the asset, the

default is handed over to the

recovery team

9. ASSET OWNERSHIP ENSURES FEW DEFAULTS AND LOW LOSSES

20

Recovery is performed according

to the asset type, involving

remarketing experts who assess

the best course of action, including

re-lease possibilities and/or the

potential disposal value of the

asset if it is sold. Again, according

to our research, asset sale proceeds

contribute significantly to low

losses for leasing, accounting for

around 80% of total recoveries.

Moreover, since the leasing

company is the legal owner of the

asset, repossession is much quicker

and simpler than in cases where a

loan is backed with other collateral

(e.g. no need to force bankruptcy).

Other sources of recovery, aside

from the asset itself, are also

possible. For instance, in cases

where the lessee has breached

the contract, the lessor can seek

recourse and/or require the

customer to pay penalty if contract

terms are not respected, regardless

of asset repossession (e.g. early

termination penalties).

Leasing

losses low

Defaults

regrade with

zero loss

Asset re-deployment

minimises losses

Asset sale proceeds

substantial

If no regrade,

quick & efficient

repossession

The risk mitigating power of asset ownership in leasing

Asset sale proceeds contribute

significantly to low losses for

leasing, accounting for around

80% of total recoveries

21

Asset management is key to the industrys success

As shown in point 2, the leasing

sector has proven to be resilient

to the financial and economic

crisis. Asset expertise and high

quality asset management skills

have played an important role in

achieving this through:

Asset specialisation which

ensures predictable and stable

returns

Excellent supplier/client

relationships which facilitate

negotiations and ensure

sustainable, long-term

partnerships where risks are

shared to the benefit of all

parties

Knowledge of and participation

in the entire business

process/value chain of their

partners/clients

Maximising returns on

asset sales through the

understanding and use of

multiple remarketing channels

and geographies

Different facets of asset risk

The general term asset risk

covers a number of aspects:

Residual value risk, or the risk that

the future second hand value of

the leased asset, predicted at the

start of the contract, will be lower

than expected. Depending on the

lessors business model, lessors will

either decide to take residual value

risk and will then manage this as

part of their core business through

the skills described in more detail

below. In other cases, lessors may

decide that they do not want to

take on significant asset exposure

and will then either seek to

protect themselves through lease

payments that cover the entire

asset value or by taking out asset

protection. This is often provided

through manufacturer or dealer

buy-back agreements, other forms

of residual value guarantees or

third-party insurance.

Risks related to asset sales: here

lessors have developed thorough

understanding of secondary asset

markets including their levels

of liquidity, their geographical

location and the benefits of

different resale channels. This

knowledge ensures that asset

sales are timely and maximise the

potential resale value of the asset.

Risks related to asset suppliers:

to avoid liability, lessors seek to

work with high quality asset and

service providers with excellent

products and after-sale services.

Additionally, lessors will have

contingency plans in place should

an agreed upon supplier fail in its

duties.

Asset risk management tools

Expertise and independence is

crucial in achieving high quality

asset management. Lessors have

developed teams of asset experts

and business specialists by country

and product market, operating

both centrally and locally and who

make use of the following asset

management tools:

Asset valuation curves

These are granular down to each

asset type and include market

values and asset depreciation

curves, with risk assumptions for

residual values.

10. ASSET EXPERTISE AND MANAGEMENT ARE THE CORE OF LEASING

22

Valuation methodologies, which

rely on:

proprietary databases

internal resale data

internal asset experts

second hand market data and

backtesting

Asset committees, which monitor

collateral values and special

provision committees that evaluate

the effect of market downturns on

asset values

Expected asset values are audited

by the Risk Department and

compared to what is observed in

cases of actual recovery

The remarketing department, in

charge of maximising recovery,

by choosing the most appropriate

resale channel (auction, vendor

network, wholesale, direct, etc.)

and the best market (local market,

global markets)

Beyond the above asset

management strategies, lessors

also put additional, back-up

tools in place. For instance, to

mitigate the effects of an asset

supplier not fulfilling a buy-

back agreement, networks of

alternative buyers are established

or other tools such as online sales

platforms are used. Lessors also

closely monitor the number of

repossessions achieved compared

to the total number of mandates

given. This is in order to assess the

effectiveness of their repossession

networks which include a variety

of subcontractors and brokers

so as to avoid overreliance on a

particular organisation. Moreover,

resale prices are compared to the

net book value of the asset and

outstanding financial amounts to

ensure that asset sales perform

well and as expected. Lastly,

special attention is paid to the

rare cases where assets are never

returned or sold. Conclusions

drawn from these cases are then

integrated into future decision-

making processes.

Lessors have developed teams

of asset experts and business

specialists, operating both

centrally and locally

23

Overview

The analysis herein is based on

two main types of data:

1) Qualitative data collected from

a panel of European leasing

companies12 covering the

following themes:

Leasing business model and

profitability

Leasing companies financial

structure

Quality of risk management

and internal control

2) Quantitative data

Key performance indicators

from the Leaseurope Index,

based on detailed data from

a sample of 17 European

leasing firms, which is used

to carry out a top-to-bottom

income statement analysis

New European equipment

and automotive leasing

volumes as reported

annually in the Leaseurope

Annual Survey by its

Member Associations.

Annual percentage changes

are calculated on the basis of

a homogenous sample and

are adjusted for fluctuations

in exchange rate

ECB and OECD European

banking sector figures are

used as point of comparison

Macro-economic data is

taken from Eurostat and

the European Commissions

AMECO database

Presentation of the Leaseurope Index

Conducted by Leaseurope, the

Leaseurope Index is a unique

survey that tracks key performance

indicators of a sample of 17

European lessors on a quarterly

basis. Its purpose is to provide

timely and regular information

on the European leasing and

automotive rental market.

The term leasing is used in its

broadest sense, covering hire

purchase, finance and operating

leasing which includes long term

rental. Leasing is defined according

to International Financial

Reporting Standards (IAS17).

Sample:

The following leasing companies

report the required figures on a

voluntary and confidential basis,

which Leaseurope then aggregates

to get European results:

DATA SOURCES

ABN AMRO Lease Credit Agricole Leasing & Factoring Nordea Finance

ALD Automotive De Lage Landen UniCredit Leasing

Arval DnB Finans Societe Generale Equipment Finance

Iccrea BancaImpresa ING Lease UBI Leasing

BNP Paribas Leasing Solutions LeasePlan Xerox Financial

Services EuropeCaterpillar S.A.R.L. Leasint

24

Coverage:

This sample is broadly

representative of the European

market in terms of geographic

coverage and asset coverage and

it represents a significant share of

the total European leasing market.

Scope:

Consolidated figures are reported

for the entire European activities

of the participating companies.

Europe is defined in the widest

sense as EU27 + EFTA + other

countries e.g. Turkey, Ukraine,

Russia, Serbia, Croatia etc. Each

company reports figures in euro

regardless of which countries they

operate in or which currencies they

report in.

More information on the

Leaseurope Index can be found on

the Leaseurope website.

Definitions of the Index variables

and ratios can be found on pages

50 and 51.

Benchmark sources (OECD, Eurostat/AMECO & ECB)

Leasing data is compared to the

overall banking context in Europe

by benchmarking volumes,

earnings and various KPIs to those

of general banking activities in the

EU and with the same business

capacity as lessors (i.e. medium-

sized banks).

OECD:

In The Role of Banks, Equity

Markets and Institutional Investors

in Long-term Financing for Growth

and Development (Report for G20

Leaders) February 2013, the

OECD provides quarterly figures

on the sum of a large numbers

of banks business activities in

derivatives, lending, and all other

activities (securities etc.).13

We use the lending figures to

compare to the evolution of the

leasing portfolio, bearing in mind

that these lending figures will

include both short and long term

loans.

Eurostat / AMECO:

AMECO is the macro-economic

database of the European

Commission's Directorate General

for Economic and Financial Affairs.

It contains data for EU-27, the

euro area, EU Member States,

candidate countries and other

OECD countries. Data for Member

States and candidate countries are

based on the ESA 95 system.

We contrast gross fixed capital

formation for equipment to new

leasing volumes.

ECB:

Since 2007, the ECB collects and

aggregates EU banking sector

income statements and balance

sheets.

Banks are classified according

to their size and origin (e.g. large

domestic banks, medium-sized

domestic banks, small domestic

banks and foreign banks). The

most relevant subpopulation for

comparison purposes is medium-

sized banks as both businesses

deal with medium-sized deals

(determined by the ECB according

to the size of their total assets

reported to the EU banks total

consolidated assets - between

0.5% and 0.005%).

We use ECB raw data from 2009

to 2012 and compute ratios to

compare them to Leaseurope

indexs figures in the corresponding

period.

12 Leasing companies taking part in a Deloitte research project on the riskiness of European leasing activities on behalf of Leaseurope

13 This study is available on the OECD website at: http://www.oecd.org/finance/private-pensions/G20reportLTFinancingForGrowthRussianPresidency2013.pdf

25

Definitions

Total operating income: Net

interest income + net fee and

commission income + net

insurance result + trading profit

+ other net income (including

rental income net of depreciation

on operating leases and profit on

sales of assets linked to leasing

activities)

Total operating expenses:

includes inter alia staff costs,

other administrative expenses,

depreciation and amortisation

Loan loss provision: Net loan loss

provision - write offs + recoveries

over the period (including write-

offs/recoveries of assets)

Pre-tax profit: Total operating

income costs provisions

Portfolio at end of period: Total

portfolio of leased assets including

outstanding loans to customers

and assets on operating lease

at the end of each period (non-

performing loans are included). The

figures reflect the depreciated value

of assets at the end of the period.

New business volumes: Total

value of new contracts approved

& signed by both sides (lessor and

lessee) during the period during

the reporting period, excluding VAT

and finance charges

RWA: Total risk weighted assets

(RWA) as defined by currently

applicable prudential requirements

(under the approach used by each

firm, be it standardised or IRB) at

the end of each period

Ratios

Profitability: weighted average of

all companies' pre-tax profit as a

% of total operating income. The

weight used is the new business

volume for the relevant period.

Cost/Income: weighted average of

all companies' operating expenses

as a % of operating income. The

weight used is the new business

volume for the relevant period.

Cost of risk: weighted average of

all companies' loan loss provision

(annualised) as a percentage of

average portfolio over the period.

The weight used is the average

portfolio over the period. Average

portfolio is calculated as the mean

of the value of the portfolio of

leased assets at the beginning and

end of each period.

Return on assets: weighted

average of all companies net profit

(annualised) as a percentage of

average portfolio over the period.

The weight used is the average

portfolio over the period. Average

portfolio is calculated as the mean

of the value of the portfolio of

leased assets at the beginning and

end of each period.

Return on equity: weighted

average of all companies net

profit (annualised) as a percentage

of 8% of average risk weighted

assets over the period. The weight

used is the average portfolio over

the period. Average portfolio is

calculated as the mean of the

value of the portfolio of leased

assets at the beginning and end of

each period. LEASEUROPE

INDEX GLOSSARY26

CONTACT

European Federation of Leasing and

Automotive Rental Associations

Boulevard Louis Schmidt 87

1040 Brussels

Belgium

Hayley McEwen

Advisor, Statistics & Economic Affairs

Telephone: +32 2 778 0571

Fax: +32 2 778 0578

E-mail: h.mcewen@leaseurope.org

Website: www.leaseurope.org

April 2014