Leasing Business Model – How Does It Work?

Most companies have the resources available to run their business efficiently. They usually have the assets required to run their operations. However, in some circumstances, they may find it challenging to finance their operations. Sometimes, companies may face bottlenecks that prevent them from investing in new projects. In these cases, acquiring new assets upfront may not be an option.

That is where leases can help them. These companies can obtain an asset on a lease from another business. This way, they don’t have to pay the full amount to acquire the asset up front, while also receiving the right to use it. For companies or businesses that provide assets for lease, the leasing business model is prevalent.

What is the Leasing business model?

The leasing business model comes as a direct result of the concept of leases. Through this business model, companies acquire assets and pay the full amount for it. Then, they find other businesses or companies to whom they can lease it. Usually, leasing companies have several assets and clients.

The client business does not need to use the same business model. However, the company that leases its assets is the primary user of this business model. The client, in this business model, becomes the lessee. The leasing company, on the other hand, becomes the lessor. Usually, both parties reach an agreement, known as a lease agreement.

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The leasing business model is one of the historical business models that has continued for generations. It is not uncommon to find leasing companies or businesses around the world. Most financial institutions, such as banks, also provide leases. However, there are also some companies for which the primary business model is leasing.

How does the Leasing business model work?

This business model has several variations. With one variation, a company acquires assets, usually generic ones, such as vehicles. After the acquisition, they offer it to various clients. Any business or individual that requires it can apply to obtain it for lease. However, this variation of the business model is not as prevalent.

In its more popular variation, leasing companies act as financers. In this case, the client initiates the transaction. They usually contact a leasing company and specify the asset that they want to obtain for lease. The leasing company acquires the asset and leases it out to the client, therefore, acting as a financer. This variation allows companies to get more clients.

Regardless of which variation a company uses, the source of income is the same. The lessor company signs an agreement with the lessee specifying the terms and payments. The revenue, in this business model, comes in the form of lease payments. After specific monthly intervals, the lessee pays the lessor a predetermined amount, which for the lessee company is revenues.

At the end of the contract, the lessor company may even transfer the asset to the lessor. However, the lessor earns more than the amount they paid for the leased asset. The lease contract will contain the terms related to the transfer. However, in some other cases, the lessor may get the leased asset back.

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What are the advantages and disadvantages of the Leasing business model?

This business model has advantages and disadvantages for both the lessor and the lessee. Some of them are below.

Advantages

The leasing business model allows companies to generate significant profits. They act as financers in the transaction and usually receive a higher amount than the asset’s cost. The company can make more than the interest rates prevalent in the market.

This business model may also come with some tax benefits. A lessor can claim various tax benefits such as depreciation and investment allowances. Most leasing companies use the business model as a part of their tax planning strategy.

For the lessee, this business model is also beneficial. It allows them to obtain an asset without needing to have a significant initial investment available. Similarly, they can spread the asset’s cost over various periods, allowing them to destress their cash flows.

Disadvantages

For the leasing company, this business model comes with a significantly high capital requirement. Companies that acquire assets for several clients must have the required resources as well. For smaller businesses or startups without high funds, this business model is not an option.

Similarly, the lessor has to ensure the recoverability of the lease payments. The leasing company always takes a risk when providing assets for lease. These risks may come in the form of late payments or defaults. Similarly, sometimes, they must bear the risks and rewards associated with the asset, which can be risky.

For the lessee, the leasing business model results in higher costs. They end up paying more for the asset compared to if they paid for it directly. Therefore, they effectively end up paying interest on the leased asset.

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Examples

Crest Capital, MachineryLink, Hertz and Enterprise are companies that use the leasing business model. These companies provide financing for entities that want to obtain assets.

In exchange, they charge them lease payments at regular intervals. Similarly, most banks also have leasing solutions.

Conclusion

The leasing business model allows companies to acquire assets and lease them out. For the right to use the leased asset, these companies charge the lessee a predetermined amount.

Usually, the lessee contacts the leasing company and specifies which asset they want to obtain. The leasing company, then, provides the finance for the transaction.

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