Under the leasing business model, a company purchases a product and then leases it to a customer for a periodic fee. The seller passes the property of the item to the lessor, which is a financier, that enables a buyer (the lessee) to use the item for a given period of time. In the end, the buyer can exercise the option to buy the item at the current market rate. This agreement makes it possible for the seller to dispose of the item, for the financier to make a profit on it, and for the buyer to use it while avoiding total costs of ownership.
Understanding the leasing business model
Companies that utilize the leasing business model sell continuous access to a product or service over an agreed period.
The model normally involves three parties:
- The seller – the owner of the product or service that sells ownership of the item to a lessor in exchange for payment. Note that the seller may or may not retake possession of the item once the contractual agreement has ended.
- The buyer (lessee) – the entity that negotiates access to the product or service in exchange for a periodic payment to the lessor. Once the lease is up, the buyer sometimes has the option of purchasing the item at the current market rate.
- The financier (lessor) – a third-party that enters into an agreement with the lessee and provides it with the item for temporary possession. In essence, the lessor serves as an intermediary or facilitator.
Where does the leasing business model occur?
The leasing business model is most often seen in transactions involving the exchange of expensive physical goods, including:
- Commercial and industrial fleet vehicles – including passenger vans, buses, box trucks, tractors, trailers, and delivery vans.
- Manufacturing and industrial plant equipment – in industries notorious for expensive item costs, leasing arrangements may be in place for stamping and forming machinery, welders, conveyor systems, and factory infrastructure or floor space.
- Restaurant and hospitality equipment – these include exhaust hoods, tables, seating, point-of-sale (POS) systems, and stoves.
- Medical and laboratory equipment – such as lasers, X-ray machines, CT scanners, and even surgical tables.
- Municipal equipment – many local councils and authorities also lease equipment to reduce costs. Items include police cars, garbage trucks, and street sweepers.
Advantages of the leasing business model
Let’s now take a look at some of the advantages of the leasing business model for both the seller, lessee, and lessor.
- Early revenue – leasing can help the seller meet a need for early revenue, even if some revenue must be shared with the lessee.
- Relationship building – since many leasing agreements extend over long periods, the seller has time to build a sustainable and loyal relationship with a buyer.
- Affordability – the most obvious benefit for a buyer is affordability. Many buyers are not willing to expose themselves to the risk of owning an asset outright while others simply cannot meet the high upfront cost. The leasing business model enables the buyer to pay in smaller monthly installments which can be budgeted for in advance.
- Continuous upgrades – businesses that rely on the latest model equipment can easily upgrade when the current lease expires. This means they are never stuck with an obsolete model.
- Increased sales – lease financing through a third party can help product manufacturers increase their sales. In these circumstances, the lessor is in a stronger position to negotiate a commission from the manufacturer.
- Tax benefits – as the owner of the asset, the lessor can claim various tax benefits including depreciation and investment allowance to reduce their liabilities.
- Under the leasing business model, a company purchases a product and then leases it to a customer for a periodic fee.
- Leasing transactions normally involve three parties: the seller, the buyer (lessee), and the financier (lessor). The lessor purchases the product from the buyer and then sells access to the product to the lessee over a set period.
- For the seller, the leasing business model gives them access to early revenue and the chance to build a loyal customer base. For the lessee, leasing allows them to avoid the risk and cost of purchasing an item outright. For the lessor, they may be able to negotiate a higher rate of commission with the product manufacturer and reduce their tax liabilities.
Tesla Case Study: leasing model to scale sales
Tesla has its own leasing arm, which is a critical distribution ingredient, to enable the company to scale its sales.
Indeed, Tesla’s leasing arm generated $1.6 billion in revenues in 2021, but most importantly this enables Tesla to make its products accessible to more people.
Indeed, there are a few key elements to understand why leasing matters in this case:
- Make the product accessible: a first element is about distribution. By enabling customers to lease Tesla vehicles, the company can make the car affordable also to people that otherwise wouldn’t be able to afford it.
- Leasing coupled with Insurance: Tesla is able to adjust the price of the lease also based on the driving behavior of drivers, thus making it possible for them to get the vehicle at a lower expense, by improving their driving.
- Build a new financing arm: when you have a valuable product, it becomes easier to build a service business around that product. The financing arm, which in 2021 generated $1.6 billion in revenues, has the potential to grow many times over, coupled with the scale up of the company’s operations. And this is also a business segment with potentially high margins, that can be also used to further scale the company.
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