Yanping Shi, author of this article.

Transcription

1 MARKET REVIEW I n 2013, the world economy remained sluggish and the Chinese economy was under pressure of declining growth. Along with economic transformation and rebalancing of its economy, China s GDP has ended an era of rapid growth, gradually moving to medium growth. China s 2013 GDP reached Rmb56, 884.5bn, with a growth rate of 7.7% year-on-year, recording a lowest growth rate in more than 10 years (Table 1). 54.4% of the GDP growth was contributed by capital formation, while final consumption expenditure contributed 50%, and net exports made a contribution of 4.4%. In 2013, the tertiary sector, representing 46.1% growth of the total GDP, outgrew the second industry for the first time. Total fixed asset investment increased by 19.6%, which was the lowest growth rate in the recent years (Table 2). The financial environment, in general stood sound and stable in 2013, with total financing across the country reaching a record high of Rmb17,290bn. The reform of the financial sector continued, allowing more private capital to flow into the financial market. Numerous policies have been introduced to reform the financial market, such as gradually liberalising interest rates, relaxing limitations on asset management markets etc. As a result, the non-bank financial institutions developed rapidly, and competition among financial institutions became more intense. In the face of sluggish demand, the over-capacity problem of a number of industries began to surface. Environmental issues also surfaced, an increasing public concern, driving a series of policies relating to industrial energy saving and environment protection, aiming to balance environmental protection and economic growth. As such, different industries participating in financial leasing were affected in different degrees. Industries such as healthcare and education were less affected by the economy Yanping Shi, author of this article. and maintained steady growth thanks to continued financial support from the government. However, as basic healthcare and educational sectors expand in China, infrastructure construction and equipment acquisition will slow down. The development of these industries will gradually shift from scale expansion into upgrading. Industries such as infrastructure construction, printing, machinery and textiles slowed down in growth and declined in profitability, leading to the overall decline of investment growth and relatively weaker demand for financing compared to last year. As new growth points in the China s economic transformation, industries such as the rural, energy saving, environment protection and the general aviation industries are becoming prominent. LEASING MARKET REVIEW The year 2013 was a year of consolidation for China s leasing sector. Overall, China s leasing market has gone through an adjustment in 2013 (Table 4). After several years of rapid expansion in market volumes, the social awareness of leasing in China has been considerably enhanced. A large number of investors flooded into the market to seek opportunities, while market development forced the government to expedite relevant policy changes in response. The overall environment for leasing is improving, despite an unfavourable tax policy adopted in May 2013, 1 resulting in a major stagnation of new leasing volumes for the second half of This unfavourable policy was largely removed at the end of 2013, 2 and Table 1: China s GDP growth (year-on-year) % Source: Statistical Yearbook of China

2 the year 2014 should see a vigorous development in China s leasing. Lessors keep increasing in number. In China s leasing sector, investors are subject to different regulatory systems, creating three kinds of lessors in the market: Lessors as non-bank financial institutions (lessor as NBFIs) are often bank affiliated and subject to intense supervision of the China Banking Regulatory Commission (CBRC). These lessors are regulated by Administrative Measures on Leasing Companies as Non-Bank Financial Institutions as firstly promulgated on March 1, 2007, and recently amended on March 13, Foreign invested lessors are either joint ventures or wholly foreignowned enterprises supervised by the Ministry of Commerce (MOFCOM) and its authorised provincial-level commerce departments. These lessors are regulated by Administrative Measures on Foreign Investment in the Leasing Industry as promulgated on March 5, Domestic pilot lessors are existing enterprises which obtain a joint authorisation from MOFCOM and State Tax Administration (SAT) to engage in leasing businesses. Such authorisation is granted according to Notice of the Ministry of Commerce and the State Administration of Taxation on Relevant Issues Concerning Leasing Business issued on October 22, Thanks to the increasingly enhanced social awareness of financial leasing, in 2013 the number of lessors, especially foreign invested lessors, maintained a rapid increase. According to MOFCOM and the Financial Leasing Committee of China Bank Association (FLC), by the end of 2013, the total number of lessors in the market reached 1,109, including 23 lessors as NBFIs, 123 domestic pilot lessors and 963 foreign invested lessors respectively (Table 5). So, compared to 2012, the number of foreign invested lessors doubled in 2013, and more than 40 domestic pilot lessors were granted authorisation by MOFCOM and SAT. Strength of the industry enhanced. According to MOFCOM and FLC, by the end of 2013, the number of employees in the leasing industry reached 28,149, while the total assets of the industry amounted to Rmb1, bn, and the registered capital of the industry reached Rmb362.37bn. The average asset liability ratio is about 71.40% for Table 2: fixed asset investment and growth rate Rmb bn 50, , , , , , , , , , Source: Website of National Bureau of Statistics of China ( foreign invested lessors and domestic pilot lessors, and 89.28% for lessors as NBFIs. Leasing volume and penetration ratio. Before 2013, there were no nationwide statistics for China s leasing sector. Only FLC can provide statistics regarding lessors as NBFIs. Data about domestic and foreign invested lessors under MOFCOM supervision have long been unknown. In 2013, MOFCOM established a National Leasing Enterprises Management Information System, requiring each of the foreign invested lessors and domestic pilot lessors file a report, and MOFCOM began to publish official data gathered by the system in Therefore, the leasing figures become more reliable in 2013 as compared to the estimated figures for previous years. 3 According to statistics of FLC, by the end of 2013, the total leasing investment of lessors as NBFIs in 2013 reached Rmb442.26bn (equivalent to US$71.41bn4), increasing by 6.6% compared to Rmb414.79bn (equivalent to US$65.71bn) in Within the total leasing investment, Table 3: The renminbi exchange rate only Rmb72.10bn (equivalent to US$11.64bn) was conducted via finance leasing, accounting for 16% of the overall investment volume of lessors as NBFIs. For foreign invested lessors and domestic pilot lessors (aggregately referred to as lessors as non-financial institutions below), MOFCOM began to publish relevant statistics, and the 2013 new business volume of lessors as non-financial institutions was Rmb386.35bn (equivalent to US$62.38bn), indicating that the market share of lessors as non-financial institutions is less than a half. Therefore, the total leasing investment of China s leasing sector in 2013 amounted to Rmb828.61bn (equivalent to US$133.80bn). However, it is estimated that around 35% of the total leasing investment in China is related to the real estate industry rather than equipment. Based on this assumption, the equipment leasing figures in 2013 represent Rmb538.60bn (equivalent to US$86.97bn). The leasing penetration figures (leasing investment/total equipment expendi- Dec. 31, 2012 Dec. 31, (average) US$1 Rmb Rmb Rmb c1 Rmb Rmb Rmb Source: Fixed asset investment (Rmb bn) Growth rate (YoY, %) % 129

3 Table 4: total leasing investment of China (Rmb bn) Sources: Before 2013, data comes from the Financial Leasing Committee of China Bank Association and author s estimation; the 2013 data comes from the Ministry of Commerce and Financial Leasing Committee of China Bank Association. Note: It is estimated that around 35% of total Chinese leasing volumes are real estate, as opposed to equipment leasing, as indicated. tures or leasing investment/gdp) in 2013 can be found in Table 8. Locations of lessors. According to MOFCOM, more than 90% of lessors are located in East China. Owing to their better business environment and favourable policies, Shanghai, Beijing, Tianjin have become three national leasing centres, with more than half of lessors located there, generating more than 70% new leasing volumes. While Shanghai and Beijing have their traditional advantages in financial environment and talented workers, Tianjin gained its position by providing preferential policies to the leasing industry. However, it should be noted that many lessors registered in Tianjin have their real business centres in Beijing or 130 Rmb bn Leasing investment (Rmb bn) Leasing investment excluding real estate (Rmb bn) Table 5: Number of lessors in China under different administrations (by the end of 2013) Administration department Foreign Investment Department of Circulation Department of the industry development Year Mofcom of the Mofcom and SAT CBRC Total End of End of ,109 Sources: The 2012 data comes from the Financial Leasing Committee of China Bank Association and author s estimation; the 2013 data comes from the Ministry of Commerce and Financial Leasing Committee of China Bank Association Shanghai, such as, ICBC Financial Leasing Co., Ltd., Minsheng Financial Leasing Co., Ltd., and Industrial Bank Financial Leasing Co., Ltd. Driven by these leasing centres, leasing is becoming increasingly popular across the country. Numerous policies encouraging and supporting leasing businesses have been promulgated in Shanghai Free Trade Area, Tianjin Dongjiang Boned Area, Zhongguancun National Innovation Demonstration Zone, Shenzhen Qianhai, and many other places such as Wuhan, Ningbo, Zhuhai etc. to stimulate the development of leasing businesses there. Market structures lessors. Lessors can be divided into three groups according to international practice: bank lessors, captive lessors and independent lessors. In the Chinese leasing market, the number of bank lessors accounts for less than 10%, but they are quite influential in the industry and their business volumes are huge. Captive lessors are mainly composed of domestic pilot lessors and subsidiaries of multinational companies in China, which play an important role in the market. The majority of lessors in the market are independent lessors featured by flexibility and professionalism, albeit they are generally smaller companies as compared to bank lessors and captive lessors. Bank lessors. According to different sources of investment, bank lessors in China can be invested by both domestic and international banks. By the end of 2013, there are 12 bank lessors in China invested by domestic banks (Table 11). Most of their parent banks are listed companies. As NBFIs, the 12 domestic bank lessors are all licensed by, and under the strict supervision of, CBRC with very high registered capital. In fact, when domestic banks decide to establish a leasing subsidiary, they have to file application to CBRC. At the same time, international banks have choices to either file to CBRC or MOFCOM to establish their subsidiaries in China. If filing to CBRC, they can establish lessors as NBFIs in China while filing to MOFCOM, means they can establish foreign invested bank lessors as non-financial institutions licensed by MOFCOM, which have a much lower market access threshold than bank lessors as NBFIs. As such, compared with domestic bank lessors, foreign invested bank lessors are enjoying great arbitrary benefits. That is why there have been no foreign bank filing to CBRC for application to set up joint venture financial leasing enterprises as NBFIs until now, although China has made a commitment to open this market upon entering into WTO. All foreign invested bank lessors in China s leasing market are licensed by MOFCOM, such as Deutsche Leasing (China) Co., Ltd, De Lage Landen (China) Co., Ltd, Societe Generale Equipment Finance (Shanghai) Co., Ltd etc. Captive lessors. Since the 1990s, captive lessors invested by multinational manufacturers began to enter the Chinese leasing market, and became one of the major market players, such as Caterpillar

4 (China) Financial Leasing Company, Siemens Finance and Leasing Co., Ltd., IBM Leasing Company, CIT Finance & Leasing Corporation, HP Leasing Co., Ltd., Hitachi Leasing (China) Co., Ltd., Ingersoll Rand (China) Investment Co., Ltd etc. Meanwhile, local captive lessors relying on domestic equipment manufacturing industry have increasingly become stronger, and made significant progress in the international expansion to keep pace with their parent company s internationalisation strategy, such as Zoomlion, Sany. In China, captive lessors businesses are focused on large-size construction machinery, medical and printing equipment, etc., of which construction machinery accounts for the main part. At present China s construction machinery is number one in the world, both in production and sales volume. Among the total sales volume, about 40% is realised by leasing. Despite its sharp development in business volume, some insiders expressed concern about the prospect of local captive lessors. Especially in the last few years, some captive lessors have blindly increased their sales through leasing, bringing their risk control ability and professionalism into question. Independent lessors. In addition to bank and captive lessors, there also exist a large number of independent leasing companies characterised by their flexibility and professionalism. Currently, most lessors in China are independent lessors, who account for more than 70% in number. Lessees. Financial leasing in China has catered to a large range of lessees, including enterprises, government agents and non-profit organisations such as schools, hospitals and cultural institutions. In general, as China s leasing market rapidly develops and social awareness of leasing becomes increasingly enhanced, more and more enterprises and other kinds of organizations tend to adopt leasing as one of their financing instruments. Small and medium-sized enterprises (SMEs). Currently, it is still true that the majority of financial resources go to listed companies and large state-owned enterprises. However, along with the rapid development of the leasing industry, more and more SMEs in China enjoy the benefits of funding through equipment leasing. Also, numerous government policies have been promulgated to support lessors providing services to SMEs. Leasing has met much of SMEs equipment financing needs in China in the following respects: (i) due to risk preferences and their own policy constraints, banks are usually reluctant to finance SMEs directly, however, most of the time they are able to finance SMEs through their leasing subsidiaries; (ii) there are many small and medium-sized Table 6: Registered capital of lessors in China (by the end of 2013) Number of Number of Registered capital Number of lessors foreign-invested domestic pilot (Rmb bn) as NBFIs lessors lessors Total 0~ ~ ~ Sources: Ministry of Commerce and Financial Leasing Committee of China Bank Association. Table 7: Total assets of lessors in China (by the end of 2013) Number of Number of Total assets Number of lessors foreign-invested domestic pilot (Rmb bn) as NBFIs lessors lessors Total 0~ ~ ~ Sources: Ministry of Commerce and Financial Leasing Committee of China Bank Association. Table 8: China s leasing investment and leasing penetration in 2013 Leasing investment volume Leasing market penetration Leasing investment/gdp Before adjustment Adjusted Before Before Year Rmb bn US$bn Rmb bn US$bn adjustment Adjusted adjustment Adjusted % 3.09% 1.46% 0.95% % 3.78% 1.64% 1.07% % 3.23% 1.27% 0.83% % 2.46% 1.05% 0.68% Notes: 1. Our figures quote leasing investment, including real estate. In line with the Global Leasing Report, we have made an adjustment based on an estimate of real estate representing around 35% of all Chinese leasing volume. 2. According to National Bureau of Statistics of China, the 2013 national equipment investment reached Rmb bn. However, for the purpose of calculating leasing penetration, we have found that this figure does not cover all the relevant leased assets and expenses, so we adopt an estimate made by an officer from National Bureau of Statistics of China that total equipment expenditure accounts for about 40% of the total investment in fixed assets. In 2013, national fixed assets investment reached Rmb43,652.8bn, giving an estimated total equipment expenditures of around Rmb43,652.8bn*0.4=Rmb17,461.1bn. 3. In 2013, China s GDP reached Rmb56,884.5bn according to National Bureau of Statistics of China. 131

5 lessors in the leasing market now, and their clients are often SMEs; and (iii) leasing has played a major role in the construction area where clients are often SMEs, or even individuals. Listed companies. Restrained by an underdeveloped capital market, the financing of listed companies in China mainly relies on equity financing and bank loans. However, ever since 2007, with the rapid development of the financial leasing industry, lease financing has gradually become another approach for listed companies, of which sale and leaseback is the main form chosen. Mass appearance of sale and leaseback occurred after the financial crisis in 2009, when it became increasingly difficult for listed companies to obtain bank loans and therefore, financial leasing, especially sale and leaseback became quite popular among listed companies as a way to alleviate their immediate need for cash flow. Moreover, some ST companies even avoided delisting through sale and leaseback arrangements. It appears, then, that listed companies have adopted financial leasing, and in particular sale and leaseback, mainly because of their cash flow requirements. Leased assets. So far, we have not seen 132 any nationwide statistics regarding leased assets in the Chinese leasing market. However, a recent survey on Shanghaibased lessors conducted by Shanghai SLSE Research Center (Table 12) provides a meaningful perspective in this area, since Shanghai represents more than a third of national leasing businesses in volume. Leasing products. Simple finance lease and sale and leaseback are still the two main leasing products in the Chinese leasing market, while operating lease has not become a common practice. The majority of captive and independent lessors conduct their businesses mainly in the form of finance lease and many bank lessors and independent lessors as nonbank financial institutions conduct their businesses mainly in the form of sale and leaseback. Notably, single aircraft and single ship SPVs have been developing rapidly in recent years in Free Trade Area and Bonded area in China. For companies engaged in leasing for aircraft or vesels, an independent SPV can be set up for a single plane or ship according to leasing contract, which will enable lessors to manage and account the subject matters separately. Table 9: China's domestic bank lessors (by 2013) Time of Paid-in capital Name Registry establishment (Rmb bn) ICBC Financial Leasing Co., Ltd. Tianjin CCB Financial Leasing Corporation Beijing Minsheng Financial Leasing Co., Ltd. Tianjin China Development Bank Financial Leasing Co., Ltd. Shenzhen Bank of Communications Financial Leasing Co., Ltd. Shanghai CMB Financial Leasing Co., Ltd. Shanghai China Everbright Bank Financial Leasing Co., Ltd. Wuhan Industrial Bank Financial Leasing Co., Ltd. Tianjin ABC Financial Leasing Co., Ltd. Shanghai Pudong Development Bank Financial Leasing Co., Ltd. Shanghai Huaxia Financial Leasing Co., Ltd. Kunming AB Leasing Co., Ltd. Tianjin Table 10: Distribution of leased assets for Shanghaibased lessors ( ) Bank lessors Captive lessors Independent lessors Infrastructure 36% Manufacturing 28% Manufacturing 24% Manufacturing 25% Aircraft 22% Medical 24% Aircraft 13% Construction 21% Education 13% Construction 8% Ship 15% Infrastructure 12% Ship 10% Infrastructure 7% Construction 8% Business car 4% Office 2% Ship 10% Other 4% Others 3% Business car 5% Others 4% Source: 2014 Shanghai Leasing Yearbook as prepared by Shanghai Leasing Services and Exchange ( SLSE ) Research Centre. Through the SPVs, companies can not only enjoy preferential tax treatment in free trade zones, but also can effectively isolate risks. Even if the SPV project company suffers losses, it will not cause significant damage to parent companies, thus, the leasing company s competitiveness and anti-risk capability may be improved accordingly. Funding of lessors. Currently, the majority of Chinese lessors funding still comes from bank loans and their own equity. Many lessors as NBFIs also rely on the money market for their funding, creating term mismatch. In today s leasing market, lack of funding can be a bottleneck for many lessors. Along with the deepening of China s financial market reform and development of the leasing market per se, the funding approaches for lessors in China should become more diversified in the future. In particular, leasing assets securitisation has become a funding channel that financial leasing companies have been fighting for vigorously. Leasing companies can convert leasing assets, or creditor s rights, that are capable of generating large amount of stead cash flow into securities that can be sold and circulate in the financial market, directly connecting the end users of capital and the capital providers and saving the funding cost of leasing companies to a great extent. Until now, very few leasing companies have successfully issued their asset securitisation products but hopefully more will be approved by CBRC in the future. LEGAL INFRASTRUCTURE FOR THE LEASING SECTOR IN CHINA Overall, the rapid development of the leasing market forces the Chinese government to speed up the improvement of legal infrastructures for the leasing sector, allowing companies to adapt to the new opportunities and challenges. Regulation. A new measures for administration of lessors as NBFIs has been promulgated in March In March 2014, CBRC published a new version of Measures for Administration of Lessors as NBFIs to replace the old measures as promulgated in Compared to the old version, the new measures have created a better regulatory environment for lessors as NBFIs by relaxing the market entry requirements, broadening their business scope and strengthening risk control requirements. Previously, CBRC required the applicant for establishment of a lessor as

6 NBFIs to be a main investor who contributes at least 50% of the registered capital of the lessor. The new measures have removed such harsh requirements, allowing for a variety of investors to become promoters of the proposed leasing company, while requiring one of the promoters to contribute at least 30% of the registered capital of the proposed lessor. The new measures also broaden the business scope of lessors as NBFIs, allowing them to transfer or purchase leasing assets and invest in fixed income securities etc. Upon further approval by CBRC, they may also be able to issue bonds, establish SPVs in bonded areas, engage in asset securitisation and guarantee businesses. The new measures make funding of lessors as NBFIs much easier than before. In the meantime, the new measures strengthen the risk controlling measures to lessors as NBFIs, requiring them to establish a comprehensive risk management system. MOFCOM is now seeking to create a unified regulatory system for foreign invested lessors and domestic pilot lessors. The different treatment regarding foreign and domestic investment in leasing has created a major regulatory arbitrage in China s leasing market: in respect of market entry, foreign capital enjoys super national treatment with a relatively low minimum registered capital requirement of US$10m and also an easy approval procedure, resulting in a sharp increase of foreign invested lessors in recent years; however, about two-thirds of them are actually controlled by domestic capital. Meanwhile, it is rather difficult for domestic capital to enter the leasing market due to harsh requirements on registered capital and also qualifications of investors. What is even worse, the establishment of domestic lessors is still at a test stage without a formal and stable arrangement, which seriously hinders the development of domestic lessors, encouraging many to establish foreign invested lessors instead. Such arrangements not only increase investors costs, but also cause difficulties in the regulation. In October, 2013, Measures for the Supervision of Financial Leasing Enterprises was published by MOFCOM, focusing on post-establishment operations of lessors, either foreigninvested or domestic pilot. It is a goal of MOFCOM that a unified entry threshold can also be made to foreign-invested lessors and domestic lessors in the near future, to provide a level-playing field for these two kinds of lessors and to eliminate the current unfairness and supervision arbitrages. Accounting. Since 2007, accounting standards in China for lease were, in terms of content, kept consistent with international accounting standards and adjusted in accordance with the Chinese laws and regulations and the realities of the Chinese enterprises. It is the view of some industry insiders that the proposed change of the international accounting standards for leasing might be a positive trend but, because China s current regulatory system, evaluation system of the leasing market, the securities market, and the second-hand equipment market are still under improvement, if Chinese lease accounting standards adopt the proposed change too quickly, there will be some adverse effects on the development of the Chinese financial leasing industry. Taxation. The VAT tax reform. In China, a dual system of indirect taxes existed for many years with Business Tax applicable to the services industry and VAT applicable to the sale of goods. During that time, both business tax and VAT were applicable to financial leasing transactions. VAT was paid when the leased assets were purchased and the business tax paid by lessor when it receives the rentals from the lessee. Business tax rate of licensed lessors is the same as the banking industry, i.e. they pay the business tax by spreads, at a rate of 5%. However, this situation has been completely changed by a reform to replace the business tax with VAT entirely for the services industry, launched by the government recently. The VAT tax reform in the leasing sector started as a pilot programme in Shanghai on January 1, 2012 and was adopted across the country since August Industry insiders believe that, overall, the VAT reform should be good for the leasing industry in the long run. However, during the tax reform, a number of problems and challenges arose and imposed practical difficulties. In particular, an unfavourable tax policy has regarding sale and lease back transactions largely increased the tax burden of such transactions as of August 2013, resulting in a major stagnation of new leasing volumes for the second half of Despite this unfavorable policy being replaced in December 2013, some still complain that the tax barrier regarding sale and lease back transactions remains in some areas, due to different understanding and practices by local tax authorities. Until now, the structure of VAT on financial leasing is still complicated, confusing the whole industry and the complex regulatory regime makes this task even more difficult. How to make a tax policy truly reflect the financial nature and turnover nature of financial leasing, while at the same time facilitating further development of the leasing industry, remains a problem for policy makers and researchers to address. Laws and regulations governing leasing transactions. A judicial interpretation regarding leasing has become effective since March When drafting Chapter 14 of the Contract Law, namely the Leasing Contracts, Chinese legislators gained some insight from international practice of financial leasing legislation. However, this was subject to the relatively small size of the Chinese leasing sector at that time, and also limited by the nature of the Contract Law (Chapter 14 of the Contract Law regulates only the basics of a financial leasing contract). There are no clear regulations on such important aspects as varieties, registration and withdrawal of the leased assets, default remedy, risk undertaken and the rights of lessees in the equipment purchasing contract etc. Such legal limitations are not conducive to the healthy development of the financial leasing sector, and with its rapid development in China, this impact becomes increasingly apparent. Along with the rapid growth of leasing investments in China, there has been an increase in disputes regarding leasing transactions. Due to the legal limitations stated above, judges find it hard to adjudicate in trials of leasing transaction disputes. In response, the Second Civil Court Trial Chamber of the Supreme People s Court of PRC initiated the drafting of Judicial Interpretation of Financial Leasing Contract in 2011 and such judicial interpretation finally becomes effective as of March 1, The new judicial interpretation has responded to a number of practical problems arising in recent years and its implementation provides a better legal environment for the leasing industry. Lack of duly authorised registration system for leased assets seriously damages the development of leasing in China. 133

7 In 2007, the Property Law established the bona fide acquisition system. While the fundamental features of financial leasing is separation of ownership and occupation of the leased assets, the bona fide acquisition system resulted in a disastrous impact on financial leasing due to the lack of a corresponding legal systems, in particular a competent registration system for the leased assets. The most common case would be that the lessee may sell the leased assets or mortgage such assets to financial institutions without the lessors awareness or consent, so as to refinance for themselves and thus seriously infringe the ownership of the leasing companies. According to statistics, ever since the implementation of the Property Law, the number of disputes of malicious disposal of the leased property by lessees has become the second largest source of leasing disputes in court practice. If such disputes go to the courts, most courts will support the bona fide third parties according to the bona fide acquisition system provided in Article 106 of the Property Law. This is becoming a material operating risk for lessors in China. Considering international practice, the establishment of a bona fide acquisition system is usually equipped with a set of registration systems for movable properties, enabling the balance of legal rights for both the real owners and also third parties in good faith. However, in China the system of bona fide acquisition was set up without a property registration system in place, which is the most important cause of the related legal imbalances. The registration system run by People s Bank of China. Ever since 2009, the Credit Reference Centre of People s Bank of China (the Credit Centre ) has set up the Financial Leasing Registration System based on the existing credit investigation system. The system adopts the international advanced concept of public property registration; the registration only requires the identification information of the lessor, lessee and the leased assets information, without a requirement to submit the principal contract and security contract. However, without adequate empowerment by relevant laws and regulations, the Credit Centre is not the statutory registration body regarding the property rights related to the leased assets. Hence, such registrations cannot create a power to the world and people at large have no obligations for inquiry of the same. 134 Therefore, it is very hard for the courts to validate such registrations. Based on a large number of investigations and research, Tianjin made a meaningful attempt to solve the registration difficulty since the end of 2011 by issuing relevant local regulations governing leasing transactions occurred in Tianjin. Tianjin s method is basically as follows: as under most of the circumstances, the bona fide third parties would be banks and non-bank financial institutions regulated by CBRC, the problem is solved by imposing relevant duties for check and inquiry from registration the system run by the Credit Centre of CBRC as compliance requirements, rather than legal duties. As such, the legal barriers are partially overcome without breaking the provisions of the Property Law. Tianjin s attempt has positive practical significance in the current legal regime, but its limitations are also obvious; first it only binds specific organisations such as banks and non-bank financial institutions, and secondly this is only effective in Tianjin area. Therefore, some industry insiders recommend that the National People s Congress or the State Council should regulate such issues by laws or regulations and set up a uniform registry system (if possible) for all the encumbrances existing on the movable assets, to solve the disputes arising from the severance of possession and ownership of movable assets. The outlook for China is now fostering the leasing industry nationwide. Currently, the importance of leasing has been constantly addressed at both the central government level and the local government level. On August 6, 2014, the State Council issued a Guideline to accelerate development of the producer services sector to advance the adjustment and upgrade of industrial restructure, 5 in which leasing is listed as one of the industries that shall be developed in priority. Another favourable policy, issued in September, 2014, decrees that eligible export goods for financial leasing shall be entitled to the export rebate, extending the preferential treatment piloted in Tianjin Dongjiang Bonded Area since July, 2012 to the whole country. Furthermore, the government allows for special preferential treatment to be granted to leasing companies established in areas such as Tianjin Dongjiang Bonded Area, Shanghai Free Trade Zone, and Shenzhen Qianhai Special Economic Zone. At the same time, many local governments have rushed to put forward favourable policies for leasing investment, such as preferential land or tax treatment, and fiscal subsidies. Many impediments that once existed in the leasing industry have been removed and market infrastructures are getting better alongside the development of leasing. For example, one of the main barriers to leasing development in China has been the inaccessibility of borrowers historic credit data, which is vital for lessors to determine the risks of the underlying transactions. Since October 1, 2014, this long-time problem will gradually come to an end. An online national public notice system of corporate credit information ( has been established in accordance with the Provisional Regulations on Public Notice of Corporate Information, giving the public free access to the credit information of any particular enterprise nationwide. In light of the above, we believe 2014 has the potential to see a vigorous performance in the Chinese leasing market. Notes: 1 This policy requires the VAT tax base of sale-and-leaseback transactions shall include the rent principal which were exempted from VAT or business tax prior to. Such new policies impose lessors a much greater tax burden if they do businesses in the form of sale and leaseback. 2 In December 2013, the Ministry of Finance and the State Tax Administration issued the No. 106 policy regarding the ongoing VAT reform, which states that for sale-and-leaseback transactions conducted by lessors legally established with registered capital of more than Rmb170m, the VAT tax base shall not include the principal of the underlying equipment. Therefore, the tax barrier regarding sale-and-leaseback transactions imposed by No. 37 policy (issued in May 2013) has been removed and the new No. 106 policy shall apply since August That said, since our previous estimate was based on an observation that the market share of lessors as NBFIs accounted for half of the market in recent years, and data for lessors of NBFIs is accessible, the figures are close to that of the real world. The 2013 official data as published by MOFCOM supports the method of estimation we adopted in previous years. 4 The exchange rate adopted is the average exchange rate for that year. 5 GUOFA [2014] No. 26. This article was written by Yanping Shi and Xiaolan Xu. Yanping Shi is a PhD, Program Director of Lease Research Center and Professor in Finance, University of International Business and Economics (UIB), Beijing, P.R.China. Tel: Fax: shiyanping@uibe.edu.cn. Website: Xiaolan Xu is a PhD candidate, research fellow of the Lease Research Centre, School of International Trade and Economics, UIBE, and Visiting Scholar of the University Of Connecticut School Of Law. The co-author, Xiaolan Xu, acknowledges the financial support from the 2014 Joint PhD Funding Program as sponsored by the Graduate School of UIBE.

8 THE CHINESE AUTO LEASING INDUSTRY F inance leasing was introduced in China in the 1980s, and has since drawn lessons from the more developed leasing markets of the world (US and Europe). However, China s finance and leasing industry is still in the developmental stage with several differences between its industry and that of the mature markets of the world. This report explores these differences indepth, and gives a comprehensive insight into the Chinese auto finance industry and its future trends. China is a major emerging auto finance and leasing market because of the high level of homogeneity of its auto finance products and the recently increased consumption of personal cars and credit usage. This has directly resulted in the faster growth rate of China s auto credit market. However, the mature markets, such as the US and Europe hold prominence in the business of auto leasing and finance, where leasing as a product is much more developed in comparison to China. The key distinction between leasing a car and buying it via loan is the contract end asset ownership choice. The consumer auto leasing industry in China requires breakthroughs in four essential areas: i) legal system; ii) credit environment; iii) funding sources; and iv) establishing a market of used car. Institutional innovation will be key in bringing about these breakthroughs. Furthermore, support from fiscal taxation policy can help in spreading the idea of auto leasing to the mass market. These changes can be tested in limited ways before being fully implemented, for example in the Free Trade Areas. Clean energy vehicle auto leasing and multi-mode mobility are the future of the auto leasing industry. This is an opportune moment for new advances to be introduced into the consumer auto leasing industry in China, such as green vehicle management, leasing of new energy vehicles, and car sharing services to bring about further improvements in the industry. Auto loan and leasing show comparatively high homogeneity. Currently in China, the organisations providing auto financing services mainly include commercial banks and auto finance and leasing companies. The auto credit penetration rate in China is 10%, far lower than that of the mature markets (currently it is 70% in the US). In China, financial institutions dominate the auto finance industry, followed by domestic auto finance companies. Amongst all financial institutions, auto leasing companies hold the lowest proportion of market share in the industry. Banks, auto finance companies and financial leasing companies have their respective advantage and are currently serving different market sub-segments. Banks are financially strong with low cost of capital but have a high minimum financial threshold. Auto finance companies, on the other hand, are mainly subsidiaries of large auto groups, which compared to banks have greater real-time exposure, background knowledge and expertise of the auto industry. However, their asset portfolio is limited due to restricted financing channels. Compared with consumer loans, specialised financial leasing companies through leasing products, can provide lower down payment options, more flexible payment terms and can cover more comprehensive financing needs (maintenance and insurance expenses can be classified into the instalment payment category). Moreover, they have a lower loan approval threshold, quick loan processing speed and low financing (capital) threshold. Therefore, financial leasing companies are more attractive for small and medium-sized corporate clients. Nevertheless, financial leasing is not suitable to individual clients in most cases due to the high financing rate. Background influence of financial services companies. At present the portfolio of auto finance leasing companies is gradually increasing, which is an indicator of the growth of the industry. The orientations, source advantages and risk preferences of each financial leasing company are different. Consequently, the competition among companies is not fierce. Currently, banking related leasing companies rarely involve auto leasing. CDB Leasing 1 takes the lead in initiating commercial auto leasing businesses in China. The main modes are manufacturer leasing and dealer leasing. It develops leasing businesses and helps manufacturers to reduce their selling costs. Considering that new car sales profit China ratio is declining, many large auto trading companies are entering into financial leasing areas. Domestic large auto dealers such as Xinjiang Guanghui, Pang Da Auto Trade Co., Ltd, Ya Xia Autos and Yongda Autos founded financial leasing companies, one after another. Manufacturer related financial leasing companies are also important participants in the auto finance and leasing market. They take advantage of their auto manufacturer background, and are developing diversified financial products and services. Furthermore, there are a number of third-party leasing companies whose customers are mainly individuals and small to medium-sized companies because they do not require high business volume levels as a qualifier to take on a client. The business development of most leasing companies requires distinctive marketing capability and strategic resources. Enterprises can get dealership either by cooperating with large auto leasing companies or auto manufacturers. Mature market dynamics: Comparative advantages of auto leasing. In mature markets such as the US and Europe, there is a clear difference between leasing and purchasing cars via loan as compared to China. The defining criterion between the two (leasing and purchasing via loan) is that the choice of asset ownership is available in a lease contract at term end. However, in a loan contract, customers get ownership of the vehicle at the beginning, and complete the financing of the asset through instalments. Leasing is comparatively flexible and the customers can have the rights to dissolve leasing contracts during the tenancy period and additionally have the option to either buy the vehicle or return it at the end of the tenancy period. In contrast, a leasing contract is a risk sharing mechanism of ownership. The risks of ownership are: outdated asset, depreciation cost, accidental loss risk and the risk of residual value of the asset, etc. Leasing companies get the ownership arrangement at term end, this helps customers to share ownership risks at the purchasing stage, through the usage period of the asset and finally the replacement stages. Reduction of costs at time of auto purchase. The costs at the time of customer s auto purchase stage include the capital cost of buying the car and transaction costs. For individuals, auto leasing is a premium choice for using cars within the 135

9 About NetSol Technologies NetSol Technologies, Inc. is a global provider in leading IT enterprise solutions. It primarily caters to the need of finance and leasing markets. NetSol product and service portfolio includes credit and finance management systems, customised development, system integration, and technical services. Headquartered in Calabasas, California, NetSol Technologies possesses ISO 9001, 27001, and SEI (Software Engineering Institute) CMMI (Capability Maturity Model) Maturity Level 5 certifications and specialises in the highest quality products and services. The company's clients are spread across 28 countries and include Fortune 500 manufacturers, global automotive, financial institutions and government agencies. NetSol has delivery and support locations in San Francisco, London, Beijing, Bangkok, Lahore, Adelaide, Sydney and Riyadh. 136 budget constraints. For enterprises, auto leasing can optimise the organisations cash flow and enhance capital usage efficiency. Financial leasing options. In leasing the customers have to bear the cost of the vehicles wear and tear during the tenancy period. They can choose whether to pay a down payment or not, however they need to pay tax plus the rentals. The customers also have the option to get the ownership of the asset at the end of the term. However, if they do decide to purchase the vehicle, they will pay the depreciated amount of the vehicle and not the compensation for excessive usage, damage, etc. Therefore, auto leasing businesses can share the risk of an outdated asset with their customers by providing the rights of ownership. Based on the differences between leasing and buying via loan, leasing has an associated acquisition cost which is lower than loaning. Enterprises. At purchase stage, one of the main advantages of auto leasing for enterprises is that it can lower the vehicle acquisition cost through different financing and leasing tools, such as flexible interest rates, payment plans that suit them, and easy payment arrangements, to name a few. Consequently, it allows the companies to enhance their capital usage efficiency. Furthermore, compared with bank loans, lease can generally provide a high percentage financing, as high as 100%. Auto leasing can satisfy the following requirements for enterprises: 1) Short-term liquidity needs of enterprises when entering new markets or developing new businesses. 2) Avoid the large initial capital expenditure on vehicle purchasing or down payments of auto loans. 3) Provide a swift response to the auto needs of businesses giving them a competitive edge. 4) Improve cash flows. The flexible repayment arrangement offered by auto leasing ensures that the company cash flow will match its strategy. For instance, when the shortterm fund is limited, leasing can offer the option of a reduced rental payment for a particular period. 5) Financing needs resulted from loan credit limits. For example, when the credit line of an enterprise is not sufficient enough to deal with more credit requirements, auto leasing can provide liquidity support for the organisation. 6) Tax optimisation needs. Reduction in maintenance, operating and replacement costs. During the usage period of the vehicle, the incurred costs are: maintenance costs, operating costs and replacement costs. According to the data of the American auto leasing market, 2 high-income groups lease cars more than low-income groups. The main reason for this is that leasing companies provide automobile related products and services such as vehicle replacement and warranty plans, increasing the cost of car usage. However this reduces hidden costs and gives a comprehensive package for auto usage. (i) Maintenance cost. For individuals, vehicle maintenance includes periodic maintenance checks, full examinations, accident handling, etc. For enterprises however, the cost increases with an expanding fleet. Investigation and empirical research 3 shows that customers are more inclined to lease vehicles of high maintenance and repair cost and purchase vehicles of low maintenance and repair cost. For consumers, there is a strong correlation between brand and contract selection. Therefore auto leasing companies launch targeted promotions for different vehicles brands, and try to enhance the vehicle services on offer by giving low maintenance and repair charges. Auto leasing companies can provide comprehensive maintenance services on the basis of its accumulated expertise gathered from high frequency maintenance operations and cost advantages, thereby saving maintenance cost and optimising customer utility. (ii) Operating cost. Operating cost refers to the associated vehicle usage cost except the maintenance-related costs. For individuals, it includes; penalty charges, driver associated costs, vehicle management costs. For enterprises, in addition to the above-mentioned costs, the cost of fleet management stands out. Auto leasing cuts costs for large enterprises and efficiently manages their fleets for them. According to General Electric company statistics, 80% of the Fortune 500 companies use auto leasing. It is calculated that a company which has a fleet of a 1,000 vehicles can save more than US$1.5m if it chooses to lease cars for the vehicle s life cycle. Research 4 shows that the cost of leasing a car is generally higher than buying or financing it. Auto leasing companies attract customers by offering products such as security plans, driver training programmes and options for vehicle replacement/upgrading. (iii) Replacement cost. According to the American studies, 5 vehicle replacement demand is the main driver of individual s leasing behaviour. Customers generally want to have the driving experience of various car types. By replacing vehicles after a certain period, they get excitement and satisfaction. With increasing incomes this frequent vehicle changing behaviour is being promoted. On the contrary, high replacement costs limits the customer s replacement behaviour. In Europe and the US new vehicle turnover is much higher in comparison to China. Auto leasing companies have a large number of vehicles to choose from and a large customer base, therefore they provide replacement opportunities to their customers at the mid or end of the contract term. With rapid advancements in automotive technology, vehicle appearance and performance improve quickly and prices fall fast. Thus leasing provides customers with a way to use the latest car types more conveniently and economically. In summation, auto lease, even though it is costlier than other forms of financing a car has its advantages. Auto leasing companies can share depreciation cost, accidental loss risk and the risk of an outdated asset with their customers and reduce the maintenance and operating costs for them. Reduction of residual value processing

10 cost. The main cost of reselling a car is its residual value processing cost. At disposal stage, both individuals and enterprises will have to get the residual value evaluated, which is a lengthy process and has associated costs. The residual value processing cost for enterprises is comparatively higher. Residual value processing cost is inclusive of the cost of disposing of old cars by searching used car markets or other channels/buyers. At present in China, due to the lack of a strong used car market, the residual value assessment system of old leased cars is not a sound one. Nonetheless, auto leasing companies can still reduce the residual value processing cost for their customers because of the sheer volume of vehicles that they process and their experience in the field. Transition to mature market in China: Four major obstacles. Changes in laws and regulations. To bring about improvements in the auto leasing industry, laws and regulations need to be changed. Security of ownership is the most effective means of combating credit risk. China s Property Law Article 39 stipulates that the owner of his own real estate or chattel is legally entitled to the rights of possession, usage, earnings and disposal. Auto leasing contracts clearly stipulate that the ownership of the leased vehicle belongs to the lessor. The lessor can transfer the leased property rights, use and income to the lessee through a lease contract. It is also specified in the contract that during the lease period, the lessee undertakes the responsibility of ensuring the integrity, security of the leased object, etc. Uniform policies and regulations. At present, the domestic auto leasing industry lacks legalities standards. Legal shortcomings are the main factors restricting the development of this industry. In 1998, the former Ministry of Transport and former State Planning Commission jointly issued the Auto Leasing Industry Management Interim Provisions, regulating the auto leasing industry through departmental regulations. Later, the auto leasing administrative licence was set up and in 2004, the Administrative Licence Law specified that departmental regulations have no right to set up administrative licences. Considering this, the former Ministry of Transport abolished Auto Leasing Industry Management Interim Provisions by passing the Decision on abolishing the 47th traffic regulations in December So far, there is no structured legal framework for the auto leasing industry on a national level. In 2004, the National People s Congress (NPC) Financial & Economic Committee organised 14 departments and some specialists and scholars to establish a drafting group. They submitted a report on arranging the financial leasing arrangement Law (Draft) to the NPC Standing Committee, but it was not included in the NPC s legislative agenda for consideration. Currently the Ministry of Commerce supervises leasing companies mainly on the basis of Measures for the Administration of Foreign-funded Lease Industry (implemented on March 5, 2005) and Measures for the Supervision and Management of Financial Leasing Companies (implemented on October 1, 2013). The primary laws that governs the China Banking Regulatory Commission (CBRC) are the Administrative Rules for Automotive Loans (implemented on October 1, 2004) and the Administrative Rules Governing the Auto Financing Company (implemented on January 24, 2008). Property protection issue of leased assets. (i) Issue of legal ownership of asset. Analysis of the auto leasing business shows that the ownership rights of vehicles (especially commercial vehicles) are unclear; the owners of the motor vehicles registration certificate, driving licence and transport certificate are affiliated companies while the actual owners are leasing companies. However, the rights for the usage of the vehicle are with the lessee, thus the legal association of the vehicle involved is complex. The subject of contractual (tort) liability is unclear. (ii) Ownership transfer complexity. Domestic auto finance lease transfers are similar to general trading transfers in terms of procedures and costs, which increases the burden of auto finance leasing. Additionally, after the lease contract has ended, leasing companies sometimes cannot find the lessee. This creates the issue of transferring ownership of the asset. Third-party liability for damages. The Contract Law, Article 246 clearly states that during the possession of the lessee, a third-party personal injury or property damage caused by the leased property should be taken by the lessee. The lessor does not bear corresponding responsibility. Tort Law, Article 49 states that Where the owner and the user of a motor vehicle are not the same person due to the relationship of a lease, a borrowing or any other reason and the liability of a traffic accident is attributed to the motor vehicle, the insurance company shall make compensation within the liability limit of the mandatory motor vehicle insurance. Additionally the law stipulates that the user of the motor vehicle shall make up any deficit of the compensation; and if the owner of the motor vehicle is at fault as to the harm, he shall assume the corresponding compensatory liability. Whether the corresponding compensatory liability refers to the joint liability, several liability or partial joint liability within the fault scope is unknown. Therefore due to the inconsis- Table 1: Comparison of financial leasing companies in China that have different backgrounds Business Competitive Company types Product types Main clients channels advantages Bank-related leasing Commercial auto Large corporate Targeted Financial advantage companies business clients autonomous development Dealer-related leasing New and second-hand Individuals, small Business outlets Business channels, companies auto business and medium-sized second-hand auto corporate clients processing Manufacturer-related Commercial auto Dealers, small and Associated Professional leasing companies business medium-sized dealers background, corporate clients business channels, second-hand auto processing Independent leasing New and second-hand Individuals, small Autonomous Low business companies auto business and medium-sized development, threshold, wide corporate clients dealers range of vehicles to choose from Data source: SLSE research centre. 137

11 tency in understandings, it is not easy to have uniform judicial practice. Law of the People s Republic of China on Road Traffic Safety, Article 76 provides that: where a traffic accident occurs between the driver of a motor vehicle and the driver of a non-motor vehicle or a pedestrian, the driver of the motor vehicle shall bear the liability when the driver of the non-motor vehicle or the pedestrian make no wrong; but if there is evidence which proves that the driver of the non-motor vehicle or the pedestrian violates the laws and regulations on road traffic safety, the liability to be borne by the motor vehicle driver shall be lightened on the basis of the violation degree; if the driver of the motor vehicle does not do anything wrong, the liability to be borne by the motor vehicle driver shall be no more than 10% compensation liability. In this provision, whether the driver of the motor vehicle refers to the owner of the motor vehicle, the keeper of the motor vehicle or any other party is unclear. It lacks clear definitions and legal value judgments. Acquisition in good faith and conflict with the property rights. In financial leasing, the owner of the leased property and people who use them are separated. The lessee s possession of the leased property is likely to cause the ownership illusion. At this point, two circumstances may occur and jeopardise the benefits of leasing companies: i) without the consent of the auto leasing company, the lessee transfers the vehicle and the ownership to a bona fide third party. 6 The unregistered lessor cannot oppose the bona fide third party; and ii) the recall right of the lessor cannot be guaranteed when the lessee seriously breaches the contract or defrauds the lessor of the vehicle. Thus, to further regulate the industry development and protect the interests of all parties, it is necessary to establish a financial leasing registration system which can publicise the status of leased properties. This helps to ensure the lessee s possession of the leased property and helps the third party to understand the content of financial leasing transactions. Currently, the Credit Reference Centre of the People s Bank of China has built a financial leasing registration publicity system. However, due to the lack of official recognition at the legal level, the system does not possess formal legal status (currently, the legal effect of this publicity system is only recognised in 138 Tianjin), which makes it difficult to use this system as a defence in a lawsuit; that is to say, in judicial practice, the financial leasing registration system has failed to be a direct basis to identify whether a third party is in good faith or not. Currently, in order to prevent unauthorised clients to sell vehicles, auto leasing companies are implementing mortgage registration. Mortgage registration is generally carried out by the local vehicle administration office. The differences of the registration system and the requirements in different places increases the operating costs of financial leasing companies. Lack of a credit evaluation network. Since the leasing industry is a type of credit consumption that demands high credit guarantees, the associated leasing risks are comparatively difficult to control because there is no sound credit evaluation network. The available objective data on lessee credit assessments is not adequate or difficult to obtain, therefore the credit judgment on lessees is mainly based on logic and subjective judgments, such as firm size, established time, etc. For some SME customers, the main concerns are profitability of projects and management capabilities. Inaccessible Central Bank credit system. Currently auto finance leasing companies are not allowed to log on to the central bank credit systems. Each leasing company can only take advantages of its limited information to assess customer credit statuses, thus limiting the business development. To obtain credit information, corporate customers need to issue a confirmation of credit investigation, and then seek help from the banks which open basic accounts for the companies. It greatly increases the workload of leasing companies; individual customer s credit status can be opened by the Credit Reference Centre of the People s Bank of China. It makes auto leasing procedures more cumbersome, discouraging many potential consumers. Independent auto leasing companies, operating for a long period with certain scale and standardised operations, should enjoy equal treatment as commercial banks and financial leasing companies. If leasing companies are allowed to log in the central bank credit system, credit related information like customer rental repayment can be shared, which is also conducive for auditing client credit for the banks. Lack of authoritative third-party credit rating agencies. In the credit information environment, based on basic principles of authenticity, consistency, independence and robustness, the thirdparty credit rating agencies provide all kinds of basic and additional information to the credit agencies and investors in the capital markets. Third-party rating agencies do not only offer convenience of assessing the lessee s creditworthiness for leasing companies, but can also help leasing companies to carry out bulk pricing of capital cost and determine credit limits and interest rates on the basis of enterprises or individuals risk levels, thus making reasonable credit decisions. Pricing according to individual or company risk level can effectively prevent adverse selection phenomenon and improve the efficiency of the auto leasing market. In the auto leasing market, interest rates for auto leasing companies offered to lessees of different credit levels are different. Due to the information asymmetry in the auto leasing market, it is difficult for leasing companies to determine the lessee credit worthiness. Therefore, auto leasing companies cannot rationally estimate the average credit level in the market and give corresponding average interest rates. On the one hand, the lessee with high level of creditworthiness can consider other financing methods due to high interest rates and on the other hand, the overall credit level of the remaining lessees in the market will be comparatively low, increasing the overall risk of the auto leasing market. Leasing vehicles through bank credit cards. Currently, some of the commercial vehicle leasing companies have begun to use credit cards for leasing vehicles. The process relies on the credit evaluation network led by People s Bank of China and collecting the rent through customers bank credit cards. The lessees are required to maintain enough balance in their credit card to pay the rent, the lessors monitor the rent through the banks. Identifying lessees risks from their credit card saves associated risk assessment and control procedures for the leasing companies, which is a feasible and efficient risk prevention method under current credit circumstances. Limited capital sources. Leasing requires high capital and investment due to vehicles purchase price and marketing costs, but the return is low. The periods

12 :CO-PAGE.qxd 05/12/ :27 Page 139 China China is a major emerging auto finance and leasing market because of the high level of homogeneity of its auto finance products and the recently increased consumption of personal cars and credit usage. of most contracts are long, capital return is relatively slow, and consequently the business development has high demand for the capital strength and financing capacity. Therefore, low-cost and diversified financing channels are the core competitive advantages of auto leasing companies. At present, the main business of domestic auto leasing companies are equity-based financing and bank loans, making for limited financing channels. Equity financing can bring better governance structures and management experience for the auto leasing company, but it will dilute shares of the founders and directors. Under loaning however, without a strong guarantee from shareholders or the presence of a real estate mortgage, leasing companies are required to help banks carry out mortgage registrations on all the financed autos. Both financing methods are facing some drawbacks and cannot fully meet the financing demands of auto companies. The market needs to explore new financing modes. Asset securitisation, as a new financing method, not only offers a relatively low-cost direct financing channel for the finance and leasing companies, but can also achieve a list of other factors. It can help financial leasing companies to expand the asset scale and, as an underlying asset vehicle, it is of good general use and has strong liquidity. In mature markets, auto loans and leases are usually packaged for asset securitisation. In the US, the share of auto asset securitisation in the asset securitisation market has always been in the top four from 1996 to ARA study shows that the performance of auto asset securitisation was strong in the 2008 financial crisis, and the default rate was far lower than that of other asset securitisation products. It is safer. Toyota Motor Finance Corporation began auto asset securitisation in From 2010 to 2013, the annual average size was around US$2bn and the default rate was low. In mature markets, the issuance of corporate bonds has been a major financing channel of auto leasing companies. In China, the bond market is still in its infancy. It is very difficult to issue corporate bonds for auto leasing companies, as it has not yet become an effective financing channel. With the increase in China s interest rate marketisation and the maturity of the bond market, issuance of bonds will become an important funding source for the future auto leasing companies. Undeveloped used car market. The evaluation of second-hand cars lacks accuracy in terms of estimating true market value. Off-lease vehicles are important sources of second-hand cars and the residual value pricing of used cars determines the lease pricing. However, the accuracy of pricing second-hand cars residual value is determined by the second-hand car market which may or may not be competitive and resourceful. It is different from the referential sales price at the time of new car financing. Currently, the value assessments of used cars lack objective and accurate basis, and the types of new cars in the market increase rapidly while the prices drop continuously, making the residual value fluctuation risks of second hand cars higher. At present, the immaturity of the domestic second-hand car market leads to inadequate residual value pricing mechanisms, which affects the auto leasing pricing. Besides, compared with other auto financing products, leasing has not yet shown unique comparative advantages. In the US,7 Automotive Lease Guide (ALG) is the professional organisation that provides residual value analysis. It provides consultation services, modelling tools and asset portfolio risk analysis for automobile manufacturers, financing companies and fleet management companies, through data analysis. It helps customers build their Residual Value Workbench, Remarketing Pricing Model and Fleet Residual Model which are adopted by manufacturers and financial institutions as an important basis for pricing leasing products. Currently, most passenger car brands have a certified used car business in their distribution network. However, due to the small number of certified vehicles, its influence needs to be improved. 139

13 On June 1, 2014, China s first national used car assessment criteria Technical Specifications for Used Car Appraisal and Valuation was officially implemented. After the implementation of these Standards, the China Auto Dealers Association will designate third parties, or used car operating companies, to meet these conditions for the assessment of used cars. These agencies or companies have the right to assess a used car. They can provide a Second Hand Car Technical Statement for used cars acquired by companies dealing in used cars. This used car statement specifies all relevant indicators of the vehicle, and gives a referential price, so that consumers get a fair idea about the vehicles at a glance. In the long run, with the development and improvement of the used car market related regulatory environment, credit system, information services, business models, used car trading value, trading volume and the attractiveness of the market to the financial institutions will continue to increase. Promoting auto leasing industry. Significant for the growth of the national economy. International experience shows that the development of the auto leasing industry can promote the economic growth of a country. It promotes GDP growth, creating more job opportunities and increases tax revenues. The economic impacts of auto leasing mainly includes direct impact, indirect impact and induced impact on three different levels. Direct impact is generated by the auto leasing business itself, the indirect effects are generated by the auto leasing supply chain, and induced impact is based on the employment opportunities raised by the previous two impacts (consumption activities increase). Policy suggestions. To break out of the four major bottlenecks of the auto leasing industry, development of the system is essential. Advantages of the system must be taken to introduce innovative trends for the Free Trade Area (FTA), car consumption related policies should be adjusted within FTA systems so as to promote the development of the auto leasing industry. For details, please refer to the following aspects: Legal aspects: (i) Conflicts between administrative regulations and the law must be resolved and the lease standings of vehicles should be incorporated into the filing system of the Vehicle Administration Office. 140 (ii) Establish improved vehicle registration system to effectively prevent conflicts of property rights raised by acquisitions in good faith and other such practices. (iii) Introduce relevant laws and clarify the rights and responsibilities of the lessor, such as the thirdparty liability for damages. Credit system: (i) Open up the Central Bank credit information system to the auto leasing industry. (ii) Build a credit information sharing mechanism for the auto leasing industry. (iii) Establish credible third-party rating agencies and provide personal and corporate credit records and credit reports against a certain fee. Capital backing: (i) Support the asset securitisation of auto leasing business and simplify the declaration and approval process. (ii) Support the association between auto leasing companies and bond markets, such as corporate bonds and fleet bonds. (iii) Allow overseas financing channels for auto leasing companies. Develop a used vehicle market: (i) Establish a virtual trading platform for used cars. (ii) Establish a sound credit system, asset evaluation system, monitoring system, and information service systems to form a complete value chain for the used car market. Fiscal support: (i) Reduce or annul the burden of car procurement tax on auto leasing companies. (ii) Provide low-interest loans for the auto leasing company. The formulation of relevant fiscal policies should be targeted to reduce the financial pressures of auto leasing companies and reduce heavy initial capital costs for them. Interest rates should be kept low to attract more auto leasing customers and provide more car sources to the used car market to stimulate economic growth. Next Blue Ocean in the mature market: New energy and multi-mode mobility patterns. World urbanisation causes traffic congestion, parking issues, high carbon dioxide emissions and several other problems. These problems not only create demand for new and better road infrastructure, but also change people s demand for transportation. Changes in demand mainly come about in both the type of vehicle and its ownership. Environmental concerns have encouraged a trend towards the use of clean energy vehicles. Meanwhile, taking the costs into consideration, consumer behaviour is gradually changing from being concerned about the ownership of the vehicle to just the use of it. Efficient/green energy vehicle leasing. For the past 10 years, hybrid and electric vehicles have been on the rise in mature markets. Continued volatility in fuel prices and stricter carbon emissions regulations, have exponentially increased the demand for these two types of vehicles. They have become a hot spot for investment in the auto industry. Battery leasing. For the manufacturer companies, electric vehicles challenge the traditional business model of leasing. For instance, increasing unknown variables complicate the processing of the leased vehicles residual value. The value of the electric vehicle is highly dependent on the life expectancy of its battery. Huge uncertainty of developments in battery technology, batteries of different life spans and unpredictability of battery life skews the accuracy of the residual value of electric vehicles and increase the cost of processing for the residual value of such cars. To overcome these problems, we can lease the battery and the vehicle separately. In this case, the car and the battery are two independent products. Consumers can directly purchase or rent a car, and then sign a separate agreement to lease the battery. The separation of the battery and the car can reduce the purchasing price of the electric car while reducing the residual value calculation risk. Manufacturer leasing companies can lease different parts of the vehicle, which plays to their advantage compared to other financing institutions. Case study. French carmaker Renault SA (Renault) offers battery leasing services for electric cars (such as its selfowned brand Renault Zoe, Twizy, etc.). The battery lease agreement guarantees a minimum amount for the battery (75% of original cost) and offers full warranty. Moreover, Renault limits the maximum allowed mileage of leased vehicles during the contract period and additional fees are charged for excessive mileage. The user is given the option to select the duration of the contract and the limit of maximum mileage. Monthly fee for battery

14 :CO-PAGE.qxd 08/12/ :57 Page 141 China leasing varies according to different combinations. Energy efficient enterprise fleets. Driven by a sense of social responsibility, companies offer more green vehicles to promote their corporate image. This phenomenon is more prevalent in Europe and America. Therefore, carbon emissions awareness training should be carried out for staff and fleet operators in China. Auto finance and leasing companies should provide a range of clean energy solutions to encourage people and companies to use hybrid and electric vehicles. Vehicle mobility solutions. To meet the consumer demand of using a car anytime and anywhere, new vehicle mobility solutions emerge. A survey from the US shows that many young urban residents choose not to buy a car. New vehicle car mobility solutions can respond to consumer demand of using cars and promote energy conservation. Relevant operators need to provide solutions that fit the needs of consumers, and build brand loyalty. The US and European countries pioneer in new vehicle mobility solutions. The three main trends in mobility solutions are: (i) car sharing; (ii) carpooling; and (iii) multi-movement mobility. (i) Car sharing. Consumers book their favourite car online from the car-sharing company and then return the car to any outlet after using. The advantage of this way of using cars is that consumers can reduce the investment cost into fixed cost and flexible car usage cost. In the past two years, car sharing business volume in Europe and Japan has increased significantly. KPMG has forecast a volume of 110 million vehicles globally by (ii) Carpooling. Carpooling services arrange passengers together that are bound for the same destination and have similar itinerary in a car so as to cut costs and improve the vehicle s utilisation while reducing environmental pollution. Conclusion. With the rapid development of China s domestic auto market, auto leasing industry is gradually developing. Despite the high homogeneity of automotive financing products in the Chinese market, we can clearly spot the comparative advantages of the leasing business by looking at the mature auto leasing market of the world. Auto leasing can reduce the related transaction costs for participants through risk-sharing mechanisms, so as to enhance vehicle usage efficiency, optimise resource utilisation and promote environmental protection. Domestic auto leasing companies need to seize this opportunity to innovate and grow. They should work to strengthen institutions and establish best practices for the promotion and development of the industry. Notes: The parent company of CBD Lease is CBD. Mannering, Winston, and Starkey 2002; Trocchia and Beatty 2003; Vehicle Acquisitions Leasing or Financing. To Lease or to Buy? A Structural Model of a Consumer s Vehicle and Contract Choice Decisions. To Lease or to Buy? A Structural Model of a Consumer s Vehicle and Contract Choice Decisions. An exploratory analysis of automobile leasing by US households. Bona fide third party: This third party does not know the real situation of the legal relationship between the parties. Usually it refers to the registered, unconscious people having the right in illegal trade. Acquisition in good faith means that after the possessor, who is not entitled to dispose other people s real estate, transfers the real estate to the third party, and if the transferee is in good faith when getting the real estate, he can obtain the ownership of the real estate according to the law. The former owner cannot ask the transferee to return the property after the transferee gets the ownership of the real estate. The former owner can only request compensation from the transferor (possessor). Deloitte: 2012 Auto Finance Report. This article was written by Harris Farooq, Ali Raza, Amanda Li and Yolanda Wang, NetSol Technologies, Rm 1905, East Tower, Twin Towers, B-12 Jianguomen Wai Ave,. Chaoyang District, Beijing , PR China. Tel: Website: This is an opportune moment for new advances to be introduced into the consumer auto leasing industry in China, such as green vehicle management, leasing of new energy vehicles, and car sharing services to bring about further improvements in the industry. 141