‘Those who claim to foresee the future are lying, even if by chance they are later proved right.’
 —Ancient Arabic proverb

Face it. Predicting the future is nothing more than sharing your opinion on what you believe will happen, before it does. And I have always been leery of those who claim they have the ability to predict the future. My “Trends, Observations and Predictions” article in the January/February edition of Monitor is nothing more than an assessment of what has happened in the past and a “guess” as to what may happen in the future based on that assessment.

Let’s call that first paragraph my official disclaimer. Because what I will attempt to do throughout the remaining portion of this article is to predict how the vendor finance model may change and evolve over the foreseeable future.

A year ago I wrote about the changing landscape of vendor finance. I explained how vendors have gained greater control over the vendor finance process — mostly taking control away from their funding sources. That trend continues today. Gone are the days of exclusive programs with the leasing company setting all the rules. Here to stay is the multi-funding-partner approach, with lenders lined up at the door begging for their unfair share of the vendor’s pie.

Vendor finance was a novel idea back in the 1960s and ’70s. White goods were financed by companies like Westinghouse, Whirlpool and General Electric. Household appliances were considered major purchases — durable goods. Many families couldn’t afford to pay the full price up front. Instead, they opted for the convenient vendor finance option of paying monthly — or sometimes even weekly — all for the benefits of owning modern appliances.

The simple premise of vendor finance is to help sell more stuff by making affordable financing options conveniently available at the time and place of purchase.

Vendor finance matured throughout the twentieth century. Those simple and somewhat unsophisticated white goods financiers evolved into large enterprises. Whirlpool Credit focused on inventory finance — helping their dealers finance Whirlpool products and those of other manufacturers. It eventually sold to Transamerica and later became a part of GE. Westinghouse Credit tried to follow the growth and expansion path taken by General Electric Credit, though it failed to execute like GE when it focused on riskier businesses. In the end, the credit corporation imploded under huge losses caused by poor investment choices.

Other vendors began to provide financing to help customers buy their products. Captive finance companies were born when these finance organizations remained a part of the vendor. Large product price tags increased the need for financing, so the earliest companies included Caterpillar, International Harvester, Case, John Deere and others.

Soon there were finance offerings from all the computer companies Compaq, Dell, Gateway, HP, IBM and many others. Over the past ten to 15 years the true captives have grown significantly. Today captives for Cisco, Dell, EMC, HP, IBM, Lenovo, Oracle, SAP and others, represent one of the largest contributors to vendor finance. In fact, IDC estimates the value of the U.S. information technology leasing & financing market to be $67.3 billion.

Banks and independent finance companies have been meaningful contributors to the vendor finance world. Growth by Master Lease — which was later purchase by Tokai and eventually by De Lage Landen — has matured into one of the top providers of vendor financial services, globally. Bank of America, EverBank, Key Bank, PNC Bank, U.S. Bank and Wells Fargo have all fared well in the vendor finance arena. Even post-bankrupt CIT continues to hold a presence in the office, telecom and technology sectors of vendor finance.

Vendor finance helps sell products for GE, Siemens, Philips, Olympus and Toshiba in medical equipment. Daimler, Ford, GMC and Paccar each built captives in the truck space. Clark, Hyster Yale, Mitsubishi Cat, Nissan and Toyota each offer vendor finance in the material handling world. Canon, Konica Minolta, Ricoh and Xerox are large producers in the copier, printer and document management area, each of which owns or controls a captive finance company. There are specialists in aircraft, rail, mining, machine tools and many other equipment types. Vendor finance has grown to be a significant part of the equipment leasing and finance industry. But where is it headed? What does the future hold for vendor finance?

Today vendors hold tight control over their lease finance partners. That control will continue to grow in the future. Moreover, vendors will expect their funding sources to take on greater elements of risk. This could include credit risk, operational risk, residual risk and balance sheet risk. I cannot imagine why the ultimate successful bidder for Dell would want to hold the assets of Dell Financial Services on its balance sheet. I presume this to be the reason why Blackstone’s bid includes involvement from GE Capital. Monetizing the assets of DFS and removing them from the balance sheet will be critical in helping the successful bidder reduce debt. However, don’t believe for a second that Dell is going to give up control of DFS … because it is not going to happen!

Across the spectrum of industries served by vendor finance more and more software, services, consumables and other soft costs are being financed. I see a future where some of the established lines of demarcation will become less visible. For example, leases involving in vitro diagnostics equipment that rely on reagents for each test were once commonly acquired using a placement model. An upcharge was added to the cost of reagents and a minimum number of reagents were ordered for a three-year to five-year period. The vendor/lessor would place the equipment with the end-user and reclassify the devices from inventory to capital equipment on the asset side of its balance sheet. It would then depreciate the equipment over the life of the reagent contract. Similar placement models were used for infusion therapy pumps and other diagnostic equipment.

Changes in accounting rules challenged the use of the placement model and several companies stopped using it. The model has evolved to more of a utility model where you pay for what you use — no different than your gas, electricity or water utilities. Customers agree to purchase a minimum number of tests and their monthly charges distinguish the cost for use of the device, the cost of the minimum number of tests and the cost of any excess tests. It may also include costs for service, maintenance and extended warranty. Minimally, the vendor will be able to monetize the cost of the device and perhaps the cost of services for the first 12 months.

What was once copier leasing matured into cost per copy and has further evolved into managed print services (MPS). MPS allows manufacturers and their channel partners to derive recurring revenue by adding value through services for what was once considered a purchase of hardware and supplies. In the future, you should expect to see more finance offerings for integrated products, supplies and services. And not just for digital printing. Think trucks, trailers, fuel and maintenance for an agreed upon price per mile. You get the idea.

Consider cloud computing. Users pay a price for the use of software, storage, analytics, virtualization, security, data recovery and more. What used to be the purchase of a multiple software licenses and hardware devices is now sold as a service. Does this signal an end for tech leasing? Not a chance. What it does imply is that reliance on physical assets may decrease in the future as our contractual commitments rely more heavily on the delivery of services versus the delivery of goods. If it is a firm term non-cancellable contractual commitment, it can certainly be monetized and sold to a vendor finance partner.

Affording customers greater flexibility will be a future trend in vendor finance. On-demand utility computing exists today with most IT captives and many of their channel partners. IBM’s Capacity on Demand program allows customers the flexibility to turn on or turn off processing power within their leased computers. This trend will continue and will expand to include software and services.

Expect to see more quasi-captives in the future. The Equipment Leasing and Finance Association lists 58 companies labeled as a captives among its membership roster. Yet many of those captives have no on-book earning assets. Instead, these organizations represent the origination arm for all customer financing offered by their parent company. They capture all pertinent customer data including products or services to be acquired, payment terms and credit information. They match the customer’s credit requirements with the best suited financing partner in their stable of funding sources. They take no credit or balance sheet risk, but they help to facilitate the closing of a sale and prompt funding to their parent. They play an important and vital role to both their parent and to their funding partners.

Quasi-captives will contribute to the growth of seamless vendor programs. A large portion of financing activity will take place “behind the scenes” and will be blind to the end-user. In certain cases, a portfolio of assets originated through a quasi-captive will be owned by multiple funding sources and serviced by a third-party servicer that bills and collects payments in the name of the vendor. Funding sources will invest using a variety of methods. Sources can purchase a complete assignment of the lease, the equipment, the payment obligations and any residual value investment, or simply discount the payment obligations to a net present value while taking a security interest in the lease and the underlying equipment — leaving the asset, the residual investment, tax benefits and complete customer control in the hands of the vendor’s quasi captive. Sound farfetched? It is happening today and is increasingly more popular than using the vendor’s balance sheet to extend customer financing. What is even more surprising is the customer believes that it received its financing from the vendor and sees it as an enhancer to its overall business relationship.

Automation will return to the forefront of small-ticket vendor finance. Since 2008 many lessors tweaked, tightened or altogether turned off their auto scoring systems. Small ticket relies on scoring for credit decisioning. But during the Great Recession, folks became gun shy about auto scoring. They wanted to have human eyeballs look over every decision. Manually reviewing every transaction in small ticket is cost prohibitive. Scoring models have been refined and you will begin to see them make more decisions and for larger transactional values. While the first to benefit from this increased reliance on automation will be true captives with on-book assets. Eventually, even the banks will increase their tolerance for automated decisioning. Don’t be surprised to see auto scoring thresholds rise to as much as $500,000 in the next few years.

Expect an increased level of acceptance for digital documents and e-signatures driven by the need to “do more with less.” Captives are already using these forms today. But I predict that even the most conservative banks will find ways to get comfortable with the digital versions of what they have historically required as a paper file.

Documenting the relationship between the vendor and its funding sources will continue to evolve. Vendor program agreements — the almighty VPA — have already undergone a makeover. Gone are the lengthy documents with loads of representations, warranties and indemnifications up the wazoo. They have been replaced by kinder gentler versions. But don’t mistake shorter for simpler. Agreements will potentially include layers of complexity regarding servicing, pass through billing and collecting of future services to be rendered, details regarding disposition of remaining investment in residual values, details defining rights to repurchase the portfolio and other details referencing customer control. Remember — the vendor is in control of the relationship.

One thing that won’t change in the future of vendor finance is the fact that people do business with people who they like and respect. Personal connectivity is a cornerstone of strong vendor relationships. I’ve been in meetings with vendors who have read us the riot act about our lacking performance against service level agreements and expectations … and then they stop and point across the table to our relationship manager and say, “He is the only reason we allow you guys to continue to have a seat at this table.” When it comes right down to the basics, the vendor business has always been relationship driven. Don’t expect that to change any time soon.

But what do I know? I’m just a haggard old leasing guy in the twilight of a mediocre career. If you have a different opinion on the future of vendor finance please share it with me at [email protected].

“Those who have knowledge, don’t predict. Those who predict, don’t have knowledge.”

 Lao Tzu (Chinese Taoist Philosopher, founder of Taoism)

Dexter Van Dango is a pen name for a real person who is a senior executive with more than 25 years of experience in the equipment leasing industry. A self-described portly, middle-aged, graying, balding leasing guy in the twilight of a mediocre career, Van Dango will provide occasional insight from the front lines via the Monitor.