Economics 2116A/B Lecture Notes - Cash Flow, Hire Purchase

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Published on 1 Feb 2013
Department
Certainty
One important advantage is that a hire purchase or leasing agreement is a medium term funding
facility, which cannot be withdrawn, provided the business makes the payments as they fall due.
The uncertainty that may be associated with alternative funding facilities such as overdrafts,
which are repayable on demand, is removed.
However, it should be borne in mind that both hire purchase and leasing agreements are long
term commitments. It may not be possible, or could prove costly, to terminate them early.
Budgeting
The regular nature of the hire purchase or lease payments (which are also usually of fixed
amounts as well) helps a business to forecast cash flow. The business is able to compare the
payments with the expected revenue and profits generated by the use of the asset.
Fixed Rate Finance
In most cases the payments are fixed throughout the hire purchase or lease agreement, so a
business will know at the beginning of the agreement what their repayments will be. This can be
beneficial in times of low, stable or rising interest rates but may appear expensive if interest rates
are falling.
On some agreements, such as those for a longer term, the finance company may offer the option
of variable rate agreements. In such cases, rentals or installments will vary with current interest
rates; hence it may be more difficult to budget for the level of payment.
The Effect Of Security
Under both hire purchase and leasing, the finance company retains legal ownership of the
equipment, at least until the end of the agreement. This normally gives the finance company
better security than lenders of other types of loan or overdraft facilities. The finance company
may therefore be able to offer better terms.
The decision to provide finance to a small or medium sized business depends on that business'
credit standing and potential. Because the finance company has security in the equipment, it
could tip the balance in favour of a positive credit decision.
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