TNAG-1053-FCO40-1303-China-and-Hong-Kong-Working-Group-1981 — Page 4

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TRADE WITH CHINA: LEAS ING

INFORMATION NOTE

1

Shortage of foreign exchange will be a continuing constraint on China's ability to purchase foreign goods to fuel her expansion programme. She is thus actively looking for ways either of getting others to provide the foreign exchange (ie through joint ventures) or of paying for her imports through the supply of products rather than money.

This latter technique known as counter trade, is discussed in the Department of Trade's Counter Trade Note.

2 A further option for easing China's immediate foreign exchange shortage might be for China to lease capital equipment through the UK or through intermediaries in Hong Kong or elsewhere and exporters will wish to take account of this possibility when negotiating payment terms with the Chinese.

3 Essentially export leasing enables a UK supplier to export capital goods by leasing or selling them to an intermediary company (a leasing company) which becomes the Lessor. The leasing company would then lease them to a Chinese trading organis- ation the lessee or to a second intermediary in Hong Kong. Lease payments would take the form of straight currency payments or the supply of counter trade goods.

4

ECGD provides support for leasing contracts made by UK leasors in the ways described in Annex A. Where capital equipment is sold by a UK exporter to an overseas lessor for onward lease to China, the sale to the lessor would be susceptible to normal ECGD support as is any other contract of sale.

ADVANTAGES OF LEASING

5

There are a number of advantages to the Chinese in leasing equipment:-

(a) A UK lessor receives favourable tax allowances on the purchase of UK

manufactured equipment. Aircraft, ships and containers bought for leasing to overseas lessees qualify for 100% first year writing down allowance. Other plant and equipment bought for leasing to overseas lessees qualifies for writing down allowances at 25% on the reducing balance basis. These allowances offer some opportunity for lessors with UK tax liability to reduce the cost of the goods concerned to overseas purchasers.

(b) Rentals are structured on an annuity basis where payments are of an

equal size. This can give a short term cash flow advantage to the lessee compared with higher early interest payments associated with a straightforward sale on credit terms. However the advantage may in some cases be minimal, so prospective leases should be considered on a case-by-case basis.

(c) For presentational reasons the Chinese might prefer to lease goods

rather than purchase them on credit in order to avoid appearing to be substantially in debt to the West.

DISADVANTAGES OF LEASING

6 Leasing is not a straightforward proposition, however, and there is one fundamental draw-back which will limit its attractiveness to the Chinese. Despite the advantages quoted in 5 above, the real cost of leasing is unlikely to prove cheaper over the life of a particular project than the corresponding sales contract. The initial lower pay- ments associated with leasing are offset by much higher payments in later years to give a discounted cash flow (or real) payment that is normally at least equal to the credit payment. On top of this of course must also come the margins of the leasing company and any counter trade intermediary.