SPIS Toolbox - Leasing / Repurchase Agreement

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5. Leasing / Repurchase Agreement

Outcome/Product

Leasing is a financial instrument which allows the use of an equipment without the need to purchase it. A leasing contract involves a lessor, the owner of the asset, and the lessee, who is the actor with the right to utilize the asset in exchange for a monthly contribution. At the end of the lease agreement the lessee can use the option to buy the equipment. Different kinds of institutions are active in the leasing business as MFIs, banks and equipment producers and dealers. Leasing is a business financial model.

In spite of its for-profit scope, leasing acts as an alternative financing method, since it overcomes the development barrier in rural areas. Leasing provides farmers, who normally are excluded from credit, access to innovative agrarian equipment. Farmers with a leasing agreement are therefore able to use a SPIS without ownership on it.

Lease agreements cover just a part of the total value of the equipment, meaning that at the end of the lease, the equipment will still have a residual value. The length of a lease agreement depends on the lifespan of the leased asset itself. Leasing agreements are seen as flexible since the assets can be sold and traded at any time. Equipment more suitable to be leased are assets with innovative technology, that turn obsolete fast, and assets that experience a lot of wear and tear.

From the lessor`s perspective, the main challenge of a leasing contract is the difficulty in monitoring the payments and to verify that the lessee utilizes the asset correctly without damaging it. Therefore, the institutions with the highest success rates are the ones working at local level, reaching farmers who live in remote areas.

There are several typologies of leasing. The two most common are operating and capital leasing. Operating leasing is similar to rent. The lessee pays the lessor a fee for the utilization and another fee for the depreciation of the asset. In turn, the lessor takes care of the maintenance and pays both the insurance and registration fee. In financial leasing (more similar to a loan), the lessee pays part of the total value of the assets plus the agreed interest rate in monthly rates during the entire lease agreement. At the end of the leasing contract, the lessee can buy the asset at a nominal price (residual amount decided upfront). With this contract typology, the lessee is in charge of paying the insurance and maintenance cost. For instance, if a SPIS costs 3,000 USD, during the leasing contract the farmer pays just 60% of its entire value plus an interest rate. At the end of the contract, the SPIS has a residual value of 40% (1,200 USD), that need to be paid in order to purchase the equipment.

The equipment producer and dealer “Kickstart” provides micro-leasing for the purchase of solar pumps where 30% of the payment needs to be made in advance. The residual payment can be made 5 months later, when the farmer would have earned the money from the yield sold.

Data Requirements

The requirements for a lease are much less strict than the one for a loan. Therefore, small farmers are more likely to obtain a lease than a loan.

The following requirements are necessary to be eligible for an equipment lease:

  • Documents of Identification.
  • Bank account: In order to check the farmer’s cash flow and transactions.
  • Farmer´s credit history: A leasing contract will not be recorded in the credit history of a farmer, but in order to verify his credibility, the past credit history needs to be checked.
  • Show the existence of a market for the food produced.
  • Prove one or two successful past harvests: In order to verify the experience on the field.
  • Insurance on the lease is sometimes required.
  • An upfront payment to secure the assets could be requested.
  • Collaterals or alternative sources of income are not normally required. A guarantor can be present.

People/Stakeholders

  • Lessor (Equipment Producer or Dealer / Financial Institution or both)
  • Lessee (Farmer)

Important Issues

The main advantage of a lease is that it is generally cheaper than a loan. Farmers with a leasing agreement need to pay part of the total value of a SPIS plus an interest rate. On the opposite, farmers, who purchase a SPIS must pay the total value of the equipment plus an interest rate. If the farmer decides to purchase the SPIS at the end of the lease agreement, then the lease would be more expensive than a loan.

In some leasing contracts, farmers need to agree upfront with the lessor on how many hours they will utilize the SPIS. The more precise the approximation will be, the more the farmer will gain. In fact, hours not used will not be reimbursed, and extra hours will be heavily penalized.

Most of the leasing contracts are arranged between equipment manufacturers or dealers and farmers. But usually the former, working at local level, acts as an intermediary between farmers and FIs. Manufacturers and dealers, in fact, do not possess the capital, the knowledge and infrastructure necessary to manage the lease, therefore, they involve a third party in the transaction. Usually, the FI buys the solar pump from the dealer and leases it to the farmer. Normally, the pump is used as collateral, just in few cases instead, the dealer is asked to guarantee for the farmer. The FI can own the equipment until the lease is over. In an event of a non-payment, the FI just claims the asset back, rather than going through bankruptcy procedures and the sale of the equipment. FIs have innumerable advantages acting as lessors: they collect interest and principal payments as in a loan, but since they own the asset, the leasing is less risky than a loan. Furthermore, leasing contracts broaden the customer base, since the credit assessment is focused on the lessee's ability to repay and not on the credit history or the assets base of the farmer. After the equipment is no longer usable, the FI can either sell it to the market or for scrap value. More specifically, SPIS have "buyback provisions" from the solar irrigation equipment provider. That means that in an event of a non-payment or the end of the leasing contract, the equipment dealer agrees to buy back the equipment. For example, a SPIS manufacturer agrees to a 2 year lease, and establishes the resale value of its equipment starting from a default scenario of 3 months. If, for instance, the lessee defaults at 9 months and the residual value at that point is 75%, the SPIS manufacturer will repay the FI the "buyback value", while the FI would retain leasing payments on the initial 25%.

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