Since the outbreak of Covid-19, the UK leasing sector has been dealing with several ongoing issues, such as Brexit and the green economy, as well as steering through new challenges, such as demand for IT and supply chain delays, while other issues, such as legislative reform, remain on the to-do list. Che Golden reports.
The UK leasing market finally began to show the green shoots of recovery in November 2021, which was well before Russia invaded Ukraine in February this year. Doubts now remain that the latter half of 2022 will bring the anticipated return to strong growth, meanwhile, the fallout from Covid continues to cause havoc with global supply chains while the country gets to grips with its new trading position outside Europe.
But the UK Finance and Leasing Association (FLA) says that Brexit could be a blessing in disguise. With the threat of Covid receding, the UK government can stop firefighting and finally look at overhauling its finance regulations. The FLA is lobbying for reform to the Consumer Credit Act, which has hindered leasing companies and their customers as they struggled with cash flow during the pandemic.
There are also concerns about the ability to grow the UK green lending market. As every sector is now under pressure to de-carbonise, leasing companies are looking to position themselves at the heart of the Net Zero strategy, by making it as cheap as possible to go green. But there is risk associated with new equipment and there are concerns that the deadline of 2050 is too soon for the market to evolve on its own. For green lending to be a success, it is going to need a boost from the government.
According to the FLA, total asset finance new business grew in November 2021 by 5% compared with the same month in 2020. In the 11 months to November 2021, new business was 16% higher than in the same period in 2020.
The plant and machinery finance and commercial vehicle finance sectors reported new business up in November by 35% and 7% respectively, compared with the same month in 2020. By contrast, the business equipment finance and IT equipment finance sectors reported falls in new business of 14% and 50% respectively, over the same period. The FLA credits the return to growth in November with new finance provided to SMEs up by 21% compared with the same month in 2020. It predicts new business in 2021 as a whole is likely to be £31 billion, 13% lower than the pre-pandemic peak as disruption caused by equipment shortages and the broader economic impacts of new waves of Covid slow the rate of recovery.
“Resilience is a major feature of the industry,” says Geraldine Kilkelly, director of research and chief economist at the FLA. “FLA asset finance members reported new business up by 14% in 2021 compared with the previous year, to £31.3 billion. Our latest research suggests that FLA members financed almost 40% of UK investment in machinery, equipment and purchased software in Q3 2021, the highest rate since Q2 2019.
Covid is still having a huge drag on the market. When asked what other factors have had an impact other than Covid, Kilkelly pointed out that it is difficult to take the pandemic out of the equation as its impact has shaped so much of the business environment for the last two years.
"As economies across the world began to recover from the pandemic, a surge in demand led to disruption to the supply of materials, goods and labour," she says. "New restrictions to deal with further outbreaks of Covid increased uncertainty about the economic outlook and business investment remained almost 12% below its pre-pandemic level in Q3 2021. Asset finance new business in 2021 was also 12% lower than the pre-pandemic peak as disruption caused by equipment shortages and the broader economic impacts of new waves of Covid-19 slowed the rate of recovery."
Dominic Hughes, joint managing director of Societe Generale Equipment Finance, says that while there has been a clear recovery, the growth is not uniform across the asset finance sectors, reflecting supply-side issues and in IT, a slowdown following the investment in IT infrastructure last year. However, Societe Generale Equipment Finance UK has just closed a record 2021 in terms of new business and profitability.
"Overall, our sense is that the asset finance market will continue to recover with plenty of funders competing for business," he says. "Over the last 18 months, agriculture, whose revenues and income were less likely to be directly affected by Covid, has continued to be strong. The financing of green and sustainable assets is a strong and growing sector for Societe Generale Equipment Finance UK and we are proud to be involved in Societe Generale Equipment Finance Group’s ‘Care and Dare About the Future’ plans, making a positive impact on the environment."
From the viewpoint of DLL UK, despite the many recent challenges, the market is surprisingly strong right now. "At the beginning of 2021, we saw some asset finance being diverted into the banks and to other asset finance providers who were using the government-supported Covid loans," says Duncan Hullis, general manager Northern Europe. "We were not alone in also seeing some SMEs settling their finance agreements, using this funding, but all that has largely ceased now. We enjoyed a very strong year in our hard assets divisions, while our soft asset-based divisions have seen some impacts, due to Covid impacting the way we work in offices and how we keep fit. Some of the larger soft asset type deals that would typically arise during a year have either been deferred or have gone away. However, risk costs have been almost back to normal."
One sticking point in the near future is how long it is taking UK asset finance companies to conclude deals. Supply chain problems, exacerbated by Brexit, the blockage in the Suez Canal and Covid has meant significant increases in the demand for financing used equipment and lengthened lead times from when deals are approved, to the time when it actually draws down, according to Hullis. Fulfilment of contracts is now taking months, not weeks.
Consumer Credit Act reform
Now that the Covid crisis is passing, the FLA is hoping the UK government will have time to look at reforming the Consumer Credit Act (CCA). The FLA has long argued that the CCA is cumbersome and that during the pandemic, the flaws in the legislation placed added stress on lenders.
The Consumer Credit Act set out the terms of three letters that are sent to borrowers who are struggling to repay their loans. The default notice is the last of these. Ahead of this are the letters that explain the help that borrowers can receive, and how that help will translate into a new loan agreement, known as the Modifying Agreement. The law stipulates what this agreement should contain, but in an attempt to be comprehensive, the FLA argues it becomes confusing, which creates anxiety. Anxiety that is made worse because the new agreement cannot be signed online and therefore takes an unnecessary amount of time to put in place.
Some lenders have tried to reduce the pressure on the borrower by just issuing an informal, brief statement of the forbearance they will provide. But in doing so they risk being challenged later on the enforceability of the new arrangement. The FLA also argues that it inhibits innovation and the use of technology. It adds complexity to lending on electric vehicles that will help tackle climate change and green lending is a big focus for UK companies. While HM Treasury officials acknowledged the problems, the solution would have required changes to secondary legislation and there simply was not time during the pandemic. But the FLA is hoping that now that the government is reviewing the wider financial services regulatory landscape post-Brexit, CCA reform will once again be a priority.
The FLA is also lobbying to get the 'super-deduction' legislation announced in the April 2021 budget changed to benefit leasing companies. The legislation hopes to boost investment by providing an allowance of 130% on new plant and machinery investments that would normally qualify for 18% main rate writing down allowance. While this has the potential to significantly benefit businesses, the FLA points out that the legislation as currently drafted only benefits businesses that purchase assets and excludes some of the most common ways plant and machinery is used by businesses, including leasing and plant hire. It proposes that changes are made to the deduction so that it benefits a much broader range of businesses.
For instance, firms acquiring assets that will then be let to customers on a short-term hire basis should be able to access the super-deduction. This would give a boost to sectors such as construction, where 70% of construction plant and machinery is hired in. The super-deduction should include assets that are leased as well as those acquired by hire purchase and cash. With considerable uncertainty about their future, the FLA predicts that many businesses will be reluctant to make large capital purchases and will want to hold onto their limited cash reserves. The guidance should also be clarified to reflect other ways of acquiring plant and machinery, such as conditional sale or buy-back clauses. Businesses also face confusion as to whether they can benefit from the deduction if they are using a hire purchase contract to acquire plant and machinery, as the legislation imposes conditions on this.
"There is also increasing debate about how commissions, which are paid to brokers and dealers, should be treated from a TCF [Treating Customers Fairly] point of view," says Hullis. " This is being led by developments in the motor finance market but is also moving into asset finance. There is also a focus on how asset finance can support the funding of environmentally sustainable solutions for customers. Certainly, the pipeline of projects falling into this category is at an all-time high and this is very encouraging."
Green lending is becoming a focus for asset finance around the world, but the UK government's Net Zero target makes green assets riskier. Green products already carry risk by virtue of being new to the market and pricing their lifespan, depreciation or obsolescence can be difficult. The FLA is arguing a Green Finance Wholesale Guarantee scheme would manage some of this risk so that lenders could provide competitively priced finance for green goods. It pointed out that while risk is a problem that eases over time once residual values can be calculated, and a secondary market is established for used assets, the UK government’s Net Zero targets do not give the asset finance industry enough time to develop the market at its own pace. If the market needs to be forced into growth, risk needs to be shared. The Green Finance Wholesale Guarantee scheme would run from 2022 to 2026 and cover losses on a portfolio basis.
Corporation tax reform
It also recommends reforming corporation tax rules to allow 'full expensing' so that firms can immediately deduct the cost of investments, rather than spreading it over the lifetime of the asset. Where full expensing has been introduced in other countries, the FLA claims it has resulted in significant investment growth.
With the UK economy having the unique problem of Brexit to manage, Hughes is cautious about the future.
"It is difficult to predict with so many potential external factors in play such as Brexit, " he says. "The knock-on effect in terms of supply and the cost of supply, the resulting increase in inflation, potential wage squeeze resulting in reduced demand is all going to have an impact. Assuming there is not too much external disruption we believe the market will grow but not at the levels seen in 2021."
Hullis, on the other hand, is confident the market will rebound this year. "As the UK continues to adjust to the new reality of being outside of Europe, supply issues normalise and Covid has less impact, I expect the UK asset finance market to be strong in 2022, especially in the second half of 2022," he says. "The way the UK government has supported British business during the pandemic means that I expect moderate growth to be possible, even in these uncertain times. I also expect more availability or larger ticket transactions, on top of the normal flow business."