Paste Chapter 1 Introduction
1.1 Introduction
The purpose of this thesis is to investigate the possible effects of the proposed changes in the International Accounting Standard (IAS) 17 'Leases' in Germany and in France. The rapid growth of leasing during the 1970's motivated standard setters in several countries to develop lease accounting standards to overcome the deficiencies of accounting in regards to leasing. Current lease accounting standards are based on the view of economic ownership. Leases are currently classified as either financial or operating leases, the latter is not reported by the lessee on his balance sheet and therefore can have major implications on investors and other user of financial statements. McGregor (1996) notes that the current standards fail to recognize the assets/liabilities on the lessee's balance sheet that arises from operational leases.
The popularity of leasing as a means to acquire access to benefits associated with property, equipment and other assets has to managers becoming more opportunistic. IAS 17 requires lease transactions to be categorized based on their substance rather than their form, managers may sometimes structure leases in ways advantageous to them. For example, in order to receive large tax benefits by keeping these transactions off- balance or to structure these transactions in a certain manner that they are categorized as operating leases.
Regulators/standard setters and other interested parties have complained that the current state of lease accounting does not provide financial statement users with transparent information regarding the lease transactions. This situation has created the amendment of the lease accounting standards during their history. Accounting scandals such as Enron and WorldCom has led to several accounting regulating bodies to act and implement new laws and legislation such as SOX. The Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) in July 2006 started a joint project in response to the SEC's 2005 Report and Recommendations Pursuant to Section 401(c) of the Sarbanes-Oxley Act of 2002 on Arrangements with Off-Balance Sheet Implications, Special Purpose Entities, and Transparency of Filings by Issuers . The objective of standard setters was to revise and to evaluate the areas of concern and proposed several changes that would better reflect the current state of lease accounting. Standard setters, regulators and others believe that to improve the quality of lease accounting a thorough reexamination in the current standard is needed. McGregor (1996) expressed concern about the information presented in financial statements in regards to leases, and more specifically about operational leases. Beattie et al. (2000) expressed this same concern in his study by noting that operational leases are thirteen times larger than financial leases. McGregor (1996, p.1) states 'Lease finance in modern economies continues to provide a significant source of funds to business for the acquisition of property, plant, equipment and other assets'. Similar findings have been found by (Imhoff, 1993; Graham, 1998) . According to the White Clarke Global Leasing Report 2014, the total volume of leasing transactions of the top 50 countries in 2012 amounted to 868 billion dollars.
The new approach to lease accounting that is being studied/ evaluated would treat the majority of leases as financial leases therefore all assets an obligations that may arise from lease transactions would be recognized on the balance sheet . The main reasons for this possible new lease accounting approach is to improve:
(i) transparency and comparability between firms
(ii) to provide investors more reliable decision-making information
(iii) improve the quality of published financial information
This new lease accounting approach has been heavily criticized by lease organizations and auditing firms worldwide do to its complexity, costs and the negative effects that capitalization of operational leases would have on a firm's financial health.
Prior studies have investigated the effects of operational lease capitalization, they have to some extend found that capitalization has a negative effect on a firm's solvency, gearing and profitability (Sharpe, 1995). Capitalization also affects a firm's ability to attract investors and other types of funding. Capitalization of leases remains a focal point of researchers, standard setters (FASB, IASB) and other stakeholders, especially because an increasing demand exists for more adequate financial reporting. As signaled previously the purpose of this thesis is to investigate the potential effects of the proposed changes to IAS 17 in Germany and in France. In order to investigate this accordingly the next research question and sub-questions have been formulated:
Does capitalization of operational leases in Germany and in France have a negative economic effect on listed firms?
1. What are the characteristics of financial accounting?
2. What characteristics influence the operational lease intensity of listed firms?
3. How are key financial performance measures affected by the capitalization of operational leases?
4. Will the economic effects of the proposed changes caused by the intended adoption of IAS 17 differ from one another for Germany and for France
1.2 Motivation and contribution
The main motivation for this thesis is the ongoing debate between regulators, standard setters and other stakeholders regarding whether operational leases should be capitalized and appear on balance sheet/ financial statements of lessees. Secondly the capitalization of operational leases has not been studied in a German and in a French setting. Germany is the largest European leasing market while France is the third largest; this creates an interesting setting because it is not sure if the expected negative effect will be statistically significant. Finally the country effect will be investigated, even though both Germany and France are categorized macro-uniform based countries (Nobes, 1983). Germany is more law based and France more tax-based, a possibility exists that other factors can influence the lease transactions within these countries. According to Branswijck et al. (2011) after the implementation of IFRS in 2005 all listed firms in the Europe Union used the same standard to account for leases, however firms first prepare their statements according to their local standards (GAAP), this can affect the way that IAS (IFRS) is interpreted and applied.
Prior research was mostly focused on the UK and on the US but little research has been performed for other European countries especially large European leasing markets. This thesis will contribute to prior research by first investigating the effects of the proposed changes to IAS 17 in two of the largest European leasing markets. Secondly provides further evidence which industries are most affected by the capitalization of leases and what determinants of the operational leasing have the most influence on the operational lease intensity of listed firms.
1.3 Objectives
The main objective of this thesis is to investigate whether the proposed amendments to IAS 17 will affect listed firms in Germany and France in negative manner. Previous research suggests that capitalization of operational leases has a negative effect on: key financial ratios, firm's solvability and can lead to violation of the debt covenants. However firms many firms do not agree with the proposed changes to IAS 17 because eliminating the distinction between financial and operating leases would mean all leases would be classified as financial leases and would have to appear on all balance sheets. This would affect a firm's profit margin, key ratios, and their ability to attract funding/ investors and would increase the cost of capital. Other objective is to investigate the drivers of lease intensity for listed firms. Previous research suggests that for example the industry where a firm operates or tax rates can heavily influences a firm's operational lease intensity. In order to investigate the possible negative effects of the capitalization this thesis will focus on the key ratios that are most affect by the capitalization of operational leases. In addition, in order to determine the most important factors that drive the operational lease intensity this thesis will use various variables used by previous studies in to one model.
1.4 Methodology
This paragraph briefly discusses the method of this paper. Data regarding the operational leases will be retrieved from annual reports, as this information is mostly unavailable in databases do to the reporting nature of operational leases at the moment. Secondary data needed for the model will be retrieved from Compustat, Orbis and other bibliographic databases. For the purpose of this thesis only firms who have active operational lease contracts in 2013/2014 will be used. The reason for this is that firms in order to perform this thesis it is essential that the firms that are investigated have active operational lease contracts the objective of this thesis is to investigate the effects of the capitalization of those contracts. Secondly the year 2013/2014 is chosen as sample period in this study because its 5/6 years after the financial crisis of 2007-2008 and 8/9 years after the mandatory adoption of IFRS. Prior research was mostly focused prior or during the financial crisis where regulation was less prevalent and where firms were more likely to have engaged in the use of operational leases as sources of debt financing or other.
To perform comparisons between all the different industries, the firms in the final sample will be categorized according to their industry. Secondly the lease liability will be calculated according to the method used by (Imhoff, 1991). The impact on the key financial ratios will be investigated by computing before and after capitalization computations of the ratios most affected by the capitalization of operational leases. Finally the relation between PVOL (dependent variable) and de independent variables in this thesis will be test by performing a univariate analysis using the established regression model. This process will be further explained in detail in the chapter research design method and sample.
1.5 Demarcations and limitations
As signaled before, this study will use a slightly modified version of the constructive capitalization method developed by Imhoff, 1991. This method is based on certain assumptions such as: 10% interest rate, straight-line depreciation, and combined tax rate of 40% etc. Other possible limitations maybe that the assumptions used in this thesis may/ or may not agree with the contemporary understanding of accounting theory or the application of this theory for example the assumptions signaled previously. The unavailability of information or misleading information found regarding operational leases has the ability to influence the results of this thesis, and is qualified as a major limitation of this thesis. For example if operational leases are structured in a certain manner so that they are not considered operational leases, these will not be part of this thesis, but will affect the quality of the findings in this thesis.
This paragraph focuses on the potential limitations of this thesis even before the empirical part of this thesis is carried out. Some factors have been found that are able to for example influence (a) the quality of the findings (b) the ability effectively answer to the main thesis question and / or hypotheses. As the constructive capitalization method has been found to have more explanatory power than other existing capitalization methods even though it is based on several assumptions concerning future research it would be difficult to completely eliminate/ mitigate these factors.
1.6 Thesis structure
In order to answer the research question and the subsequent sub questions in a proper manner this thesis has been structured in the following manner. The first chapter presents an introduction about the subject of this thesis, its main research question/ sub questions, motivation, objectives and methodology. The second chapter will focus on the history of leasing. In addition this chapter will discuss the current standards and the changes that are being proposed by standard setters. Finally the chapter also focuses on leasing in general in both Germany and France. The third chapter focuses theories related to leasing and how these theories may affect the lease intensity of firms. In addition this chapter also discusses certain incentives that may lead firms to engage in leasing rather than using other methods of finance. The fourth chapter discusses prior research in relation to leasing, more specifically what are the determinants that influence the operational lease intensity and the impact of capitalization on the key financial ratios. The fifth chapter will explain the research method, the variables of the model and the sample of this thesis. Chapter six will present and analyze all results pertaining to this thesis and chapter seven will focus on answering the research question/ sub questions and conclusions. This chapter in addition will highlight the limitations and the need for further research regarding this or close related topics.
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Chapter 2- Leasing
2.1 Introduction
This chapter provides a general description of leasing, with a focus on Germany and on France. Section 2.2 focuses on the history and the concept of leasing. Section 2.3 presents the current treatment of leases according to IAS 17. Section 2.4 focuses on the 'proposed approach or right-of-use-model. Section 2.5 presents lease accounting for both the current and the proposed approach and the differences between lessee and lessor accounting. Section 2.7 presents legal, tax, lease volume and other aspects of leasing in Germany and in France.
2.2 History of leasing
Leasing dates back to 2000 B.C. in the Sumerian city of Ur archeological findings suggest that lease transactions of agricultural equipment, land, water and cattle took place at that period in time. The first operational lease occurred during the 1900's where a railroad lessor purchased or manufactured railroad cars for lease under the arrangement whereby the lessor would provide maintenance and owns the cars at the end of the contract. Leasing experienced rapid growth in the 1970's in the United States, accounting to more than 1 billion dollars in lease transactions. Leasing emerged in Western Europe and Asia in the early 1960's. At the moment most of the world's leasing market is concentrated between the U.S., Western Europe and Japan.
The word leasing is a comprehensive term that covers several different kinds of contractual obligations between the lessor and the lessee. Graham (1998) defines leasing as a contractual agreement where both the costs and the benefits are held separately. Fletcher (1995) defines leasing as contract between two parties, where the lessor provides the lessee with an asset for usage for a specified time period, in return for specified payments. 'IAS17, the international accounting standard for leases, defines leases as an agreement whereby the lessor conveys to the lessee, in return for a payment or series of payments, the right to use an asset for an agreed period of time' .
Lease accounting has been a fairly discussed topic in the accounting world since the late 1940's. In 1949 the American Institute of Certified Public Auditors (AICPA) issued the ARB 38 Disclosure of Long-Term Leases in Financial Statements of Lessees. 'Their main concern was that long term lease commitments were being used as substitutes for ownership and mortgage borrowing known as installment purchase of property. As a result firms using leases failed to show assets and related indebtedness on the balance sheet' (IASB, 2007). As signaled previously the leasing industry experienced rapid growth in 1970's and in November 1976 the FASB issued Statement No. 13, Accounting for Leases, the first accounting standard for leasing was issued. The standard was based on the purchase model or the installment purchase model. 'This model states that a lease that transfers substantially all of the benefits and risks incident to ownership of property should be accounted for as an acquisition of a tangible asset by the lessee and as a sale or financing by the lessor' (IASB, 2007). IAS 17, accounting for leases, was issued by the IASB in September 1982. After its introduction this standard has been amended on several occasions. As signaled previously to reevaluate the areas of concern in regards to IAS 17, more specifically to investigate the possible elimination of distinction between financial and operational leases and treat all leases as financial leases the FASB and the IASB started a joint project in July 2006. Bauman (2011) states that the primary objective of this project is to develop a model, which increases the transparency of lease transactions in the financial statements . In addition taking in to consideration the recommendations of the G4+1 study, which suggests the capitalization of property rights, is inherent in all leases. An exposure draft was issued in May 2013 and a final IFRS standard is expected to be issue not for 2017.
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2.3 Current lease approach: risk/reward approach
As signaled previously Statement of Financial Accounting Standards No. 13 (SFAS 13) is the main leasing standard in the U.S., while the International Accounting Standards 17, leases (IAS 17) is the international counterpart. IAS 17 is a more principle-based standard implying that it falls short of the more quantitative SFAS 13 (Ernst & Young, 2009). Based on IFRS a lease is defined as an agreement where the lessor conveys the right to use assets to the lessee in return for a payment or series of payments. SFAS 13 and IAS 17 are conceptually similar, and both are referred as 'risk and reward approaches'. The risk and reward approach is based on the distinction between financial and operating leases on whom substantially bears all risks and rewards related to the leased asset. A lease agreement is classified as a financial lease when substantially all risks and benefits are transferred from the lessor to lessee; if not the lease agreement is classified as an operating lease. The classification of a lease agreement in to either a financial lease or operating lease depends on the substance of the transaction rather on the form. A lease agreement is classified as a financial lease when the following criteria are met: (IAS 17.10)
1. Ownership of the asset is transferred to the lessee at the end of the lease term.
2. The lessee is given the option to purchase the asset at adequate price well below fair value at the time of the execution, at the inception of the lease, certain that the lessee will exercise the option.
3. The lease term cover the majority of the economic life of the asset, even if the title is not transferred.
4. At the start of the lease, the fair value of the leased asset substantially amounts to the present value of the minimum lease payments.
5. The lease asset specialized nature is only for use of the lessee without making any major modifications.
Other situations that in addition could create a financial lease classification: (IAS 17.11)
1. If cancelation of the lease agreement leads to losses for the lessor, these losses will be borne by the lessee.
2. Fluctuation gains or losses that may results from the fair value of the residual fall to the lessee.
3. The lessee may extend lease agreement for a second period where the rent is sufficiently lower than the market rent.
The lease agreements that do not meet the criteria signaled before are classified as operating leases. The lessor in both financial and operating leases holds legal ownership of the assets in case that the lessor files for bankruptcy the assets can still be repossessed. The economic ownership is transferred to the lessee only in the case of a financial lease. Financial leases are always accounted for on the balance sheets unlike operating leases, which are disclosed in the notes of the financial statements. IAS 17 is based on the 'facts and circumstances' approach, which involves several elements of professional judgment such as: 'major part' (IAS 17. 8c) and 'substantially' (IAS 17.8d). SFAS 13 contains a clearer definition of the elements previously signaled. A 'major part' is defined as 75% or more of the economic life and 'substantially' is defined as 90% or more of the present value of the rents (fair value). The third element is related to the cancellability of leases. Lease that are cancellable are without any restrictions for the majority of situations classified as operating leases.
2.4 Proposed lease approach: right of use model
Accounting has been undergoing a shift towards a more balance sheet approach, in which assets and liabilities are essential elements. This accounting shift moves away from the usual 'matching' principle where in the profit and loss account income is matched with its related expenditure. The definition of both assets and liabilities are then key figures when developing accounting standards and this would create that the majority of the leases to be classified as operating leases (Goodacre, 2003). McGregor (1996) published a special report entitled Accounting for Leases: A New Approach where the asset/liability approach is commented because of the recent shift in the accounting focus. Because the new approach would eliminate the distinction between financial and operating leases and treat all leases as financial leases, according to McGregor et al. (1996) the asset/liability approach would overcome the shortfalls of the current risk/reward approach. The new approach would require lessees to recognize the balance sheet all assets, all liabilities, all material rights and all obligations that arise from lease agreements.
2.5 Lessee accounting: financial leases
Financial leases are accounted by lessees in their balance sheet by recording both assets and obligations related to the lease agreement. At the start of the lease the lessee both the asset and obligation are valued at amounts equal to the fair value of the asset or the present value of the minimum lease payments. If the calculated present value is higher than the fair value of the asset, the asset and obligation are valued at the current fair value. Depreciation should be calculated in accordance with IAS 16 Property, Plant and Equipment and IAS 38 Intangible assets. If ownership is not certain at the end of the lease, the asset should be depreciated over the shorter term of the lease or the life of the leased asset.
Disclosures:
The carrying amount of the leased asset at the end of the period, the accumulated depreciation and the related obligations have to disclosed in either the financial statement or in the foot notes of the financial statements. The amounts of the minimum lease payments at balance sheet date and the present value thereof should be disclosed for:
(i) within one year
(ii) between year two and year five
(iii) later than year five
In addition, other disclosures regarding renewal or purchase options, restrictions and further leasing options.
2.5.1 Lessee accounting: operational leases
Operational leases should be expensed in the income statement over the lease term on straight-line basis. If payments do not occur in this manner, IAS 17 states that recognition should still apply the straight-line basis unless another method is more representative in regards to the lease payments (IAS 17.33). '
Disclosures:
IAS 17 requires the lessee to disclose the total amount of future lease payments under the non-cancellable operating for the periods signaled in section 2.5. Lease and sublease amounts for non-cancellable leases at the end of the period. And finally general descriptions related to restrictions, renewal and purchase options.
2.5.2 Lessor accounting: financial leases
Assets in a financial lease should be recognized in the financial statements and present them as a receivable at amount equal to the net investment in the lease and should be recognized base on a pattern that reflects the constant periodic rate of the return on the lessor net investment of the lease.
Disclosures:
The lessor is required to disclose the reconciliation between the lease investments, the present value of the minimum lease payments receivable at the end of the reporting period. Additionally shall the lessor should disclose the separate amounts for both the lease investment and the present value of minimum lease payments receivable for the periods signaled in section 2.5. Additional the lessor should disclose the accumulated allowance for uncollectible minimum lease payments and general descriptions regarding the lease agreements.
2.5.3 Lessor accounting: operational leases
Lessors should present all operating leases in their financial statements according to the nature of the asset. Lease income should be recognized on straight-line basis, unless another method provides a better reflection of the lease income. Initial costs in related to the negotiation of the lease agreement will be added to the carrying amount of the leased asset and should be expensed over the lease term in accordance with the related income. Depreciation should be in accordance with IAS 16 Property, Plant and Equipment and IAS 38 Intangible Assets.
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Disclosures:
The minimum lease payments of the non-cancellable operating leases should be disclosed in aggregate amount for the periods signaled in section 2.5. The lessor should disclose information related to renewal or purchase options. Additional disclosures should be in accordance with IAS 16, IAS 36, IAS 38, IAS 40 and IAS 41.
2.5.4 Accounting new approach: right-of-use model
Lessee:
A lessee would recognize a lease liability for the obligation of the payments and recognize the right of use-of-asset at the commencement of the lease. The lease liability is valued at the present value of the lease payments during the lease term (less the lease incentives receivable from the lessor) plus:
(i) termination penalties
(ii) purchase options (if exercised)
(iii) payments from residual value guarantees.
The right-use-of-asset is would be valued at cost (equal amount of the liability), including all initial direct costs (commissions, legal fees). The right-of-use-of-assets would be depreciated based on IAS 36 Impairment of Assets. The right-of-use-of-assets/ liabilities would appear separately from other assets and liabilities on either the financial statements or in the notes. Based on this new approach, depreciation and interest expense would be presented in the income statement.
Lessor:
Similar to the treatment of operating leases by the lessor in the risk/reward approach, operating leases the leased asset would be recognized on a straight-line basis, unless another method is more representative. Lessors would present both residuals and receivables separate either in the balance sheet or in the notes, and income related to leases can be either shown in the income statement or in the notes.'
2.6 Leasing in Germany and France
Germany:
Germany is the largest European market for leasing; consequently it is subject to certain regulations and accounting standards, this is more prevalent with investors demanding more truthful financial reporting. German GAAP are principle-based accounting standards, they consist of both codified and non-codified principles. The source of the codified accounting standards is the German Commercial Code (Handelsgesetzbuch, HGB). The HGB often lacks the detailed descriptions for specific accounting such as leasing. Germany and other European countries such as the Netherlands, Italy, Ireland and Luxembourg do not specifically address lease accounting and disclosure requirements regarding lease contracts in the law. European Union Countries (EU) without specific leasing regulations are covered by legal provisions on financial commitments that are not included in the balance sheet, in accordance with the Fourth Directive (Art. 4.3.1 (7)) which states the following: In addition to the requirements in the Fourth Directive, the total amount of all financial commitments that are not presented in the balance sheet that are important for the assessment of the financial position of a firm need to be separately disclosed. Even though the law does not address leasing in Germany, the Federal Finance Ministry has published a decree that affects the income tax treatment of lease contracts on movable assets. This implies that in the majority of the lease contracts in Germany the economic ownership belongs to the lessor. Even though in Germany the distinction exists between financial and operating leases, this is not qualified as important because the treatment of lease contracts is based on the concept of economic ownership. German law states that the owner of the asset is the owner of the tax purposes. German tax regulations defines a financial lease if it contains the following criteria:
(i) lease agreement with a fix period, which is non-cancellable
(ii) rental payments for fixed period cover at least the acquisition or production cost plus additional cost, including refinancing.
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Financial leases are classified as rental contracts when the leasing period runs for at least 40% and not more than 90% of the useful life of the asset (L''denbach, 2001).
France:
Leasing in France is qualified as part of the banking system, mainly because 'Leasing With Option to Purchase' (cr''dit-bail) belongs within the scope of the French banking regulations. Cr''dit-bail are set up by credit institutions which includes purchase options, although other types of finance lease contracts may be set up cr''dit-bails are the most commonly used. Based on the French law a fundamental distinction exists between 'Leasing With Option to Purchase' (cr''dit-bail) and 'Leasing Without Option to Purchase '(location simple) instead of the more common distinction between financial and operational lease, in France the legal owner is always treated as the owner for tax purposes. A cr''dit-bail only exists if the following criteria are met:
(i) the lessor purchases property with the intention of leasing it
(ii) lessor grants the lessee the option to purchase and it takes in to account all rental payments that have been paid
(iii) the leased asset is used for commercial/ industrial purposes
Other compulsory requirements to enter a cr''dit-bail are that a company who enters such agreements needs to have a banking license, need to be established in France and finally the leased asset has to be purchased from a third party. The French Civil code (Art 1708) defines a lease as contract where one party makes an asset available to another for a specific period in exchange for payment. The French law no. 66-455 defines a cr''dit-bail as a leasing operation where the lessor purchase an asset with the intention of leasing the purchased asset, where the lessee is granted the option of purchasing the leased asset for a determined prices, which takes in to account the rent payments during the contract period. The lessor holds the economic ownership of the assets until the lessee exercises the purchase option.
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2.6.1 Leasing volume Germany and France
Germany:
Germany is the world fourth largest economy and the third largest leasing market in the world only behind the US and China. Germany's economy is based on manufacturing and exports. Leasing is a popular debt finance method in Germany and its popularity is predominant among the small and medium sized enterprises (SME's), known as the Mittlestand. The Mittlestand is known as the German base of manufacturing and equipment use. Germany has about 500 registered leasing companies, which handle about 1.6 million lease contracts annually, with 85% being taken out by the Mittlestand. Leasing in Germany is represented by the Federal Association of German Leasing Companies (Bundesverband Deutscher Leasing-Unternehmen) which, represents about 90% of the market.
Germany's leasing volume for 2014 amounted to $ 71.31 billion, a decline of 0.33 % in comparison with the previous year. Despite the Eurozone being in recession the German leasing market remained stable in comparison with other European markets which showed declining figures such as Spain (6.10% decline). Germany remains a dominant leasing market, Germany along with the UK accounted in 2014 for 42.3 % of the European market and 16% of the world market. In Germany hire purchase accounts for 12% of equipment finance, while financial leases and operational leases account for 49% and 39% respectively of the German leasing volume.
Fig.1 Leasing by asset category in Germany
Source: www.whiteclarkegroup.com
Fig.2 shows that passenger cars/ commercial vehicles are the most leased assets in Germany followed by production machinery and office & IT equipment at 11% and 9% respectively. It is also in addition is noteworthy to signal that the services sector has surpassed the manufacturing sector as the largest costumer of leasing in Germany. The services sector was responsible for 33% of the leasing volume in Germany in comparison with 21% for the manufacturing sector, this is indicative of Germany shifting towards a more service-oriented economy .
France:
France is the third largest European leasing market, leasing in France as signaled previously is highly regulated and tax driven. In order to comply with regulatory requirements all French leasing companies must obtain a membership to the Association Fran''aise des Soci''t''s Financi''res (ASF).
Markets such as Germany have remained stable since 2011 and others such as the US and UK has shown growth. Leasing in France has been performing poorly; one of the primary reasons is the crisis in the Eurozone. Other possible explanations are the high levels of taxation on SME's and bureaucracy; the manufacturing sector has been the most affected by the current economic climate in France. In 2014 France leasing volume amounted to $ 34.31 billion a decline of 2.88% in comparison with 2013. Equipment leasing in France is divided in to LWOP and Leasing Without Option to Purchase. LWOP declined by 2.3% to $ 16 billion in comparison with 2012 an Leasing Without Option to Purchase suffered a 4.9% decline in the same year.
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Fig.2 Annual leasing volume Germany, France and other European markets
Fig.3 shows that Germany has become the largest leasing market in Europe after surpassing the UK in 2014. France a distant third has had a stagnant economy for a few years and high taxation levels have led to decreased investment specially in SME's, which are essential for the French leasing market.
2.7 Summary
This chapter presented several aspects of leasing such as the history of leasing, the concept of leasing and the importance leasing and its accounting standards. Section 2.3 presented the risk and reward approach that is currently being used to treat lease contracts, where a distinction is presented between financial and operating leases. Section 2.4 showed the new approach 'right-of-use-model' which would treat all leases as financial leases and require lessees to recognize both assets and liabilities on their balance sheets. Section 2.5 presented the current accounting treatment for both lessees and lessors based on the risk and reward approach. This section in addition presented the accounting treatment for both lessee and lessors based on proposed right-of-use-model. Section 2.6 showed that the law does not specifically address leasing in Germany and that lease contracts are based on the economic ownership of the leased asset. This section in addition showed that Germany leasing has been stable even in time of crisis and that a shift exists from a manufacturing economy to a more service-oriented economy. This section in addition focused on France and showed that leasing in France is a highly regulated and tax driven economic activity.
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