Unstoppable: The Story of Asset-Based Finance and Leasing in Canada

UNSTOPPABLE

UNSTOPPABLE

The story of asset-based finance

and leasing in Canada

BETH PARKER

Copyright © The Canadian Finance & Leasing Association, 2014

All rights reserved. No part of this publication may be reproduced, stored in a retrieval system or transmitted, in any form or by any means, without prior written consent of the publisher.

Library and Archives Canada Cataloguing in Publication data available upon request.

ISBN 978-0-9917411-9-9 (print)

ISBN 978-0-9937656-2-9 (ebook)

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Contents

Foreword

Preface

Acknowledgements

Chapter 1 Asset-Based Finance: A Pillar of the Economy

Chapter 2 The 1960s: Entrepreneurship, Leadership, and Vision

Chapter 3 The 1970s: Resilience, Determination, and Optimism

Chapter 4 1980–89: Growth, Creativity—and Risks

Chapter 5 1990–2007: Disruption, Innovation, and Consolidation

Chapter 6 2007–10: Recession, Renewal, and Transformation

Chapter 7 Unstoppable

Glossary

Appendix I A Short History of Leasing

Appendix II Asset-Based Finance by the Numbers

Appendix III Who Offers Asset-Based Finance?

Appendix IV CFLA Chairmen

Appendix V CFLA Members of the Year

Endnotes

Index

About the CFLA/About the Author

Foreword

ASSET-BASED FINANCE and leasing is based on a premise that is simple in concept but endless in its variety of applications: you don’t have to own a vehicle to drive it, and you don’t need to own that computer, software, truck, or airplane to profitably use it.

This book tells the story of the asset-based finance industry in Canada in a way that leaves no doubt about why this industry has become integral to our country’s financial system and economic well-being. Its innovative approaches have evolved over the past half-century through the work of entrepreneurial leaders who developed an entirely new industry.

It is estimated that asset-based finance in Canada finances about $300 billion worth of vehicles and equipment in this country, making it the largest provider of credit and capital to Canadian businesses and consumers after traditional lending. This type of finance is much larger than most Canadians realize and has become increasingly entrenched in the economy, expanding the pool of available capital and offering a competitive choice to businesses and consumers.

This is the story of how and why the asset-based finance industry carved its unique niche in Canada’s business landscape. It is a story that has not been told before. You will read about the products and services that didn’t exist until entrepreneurial minds with vision and determination invented them. Most importantly, you will read about the people—both the pioneers and those carrying on their legacy—who have made this industry work. Leaders, both past and present, have had much in common. They are risk-takers. They all have the capacity to innovate and apply new technology. They’re good at pricing risk. They know how to re-market assets efficiently. They’re flexible and are able to operate competitively in an unregulated marketplace.

These talents have been ingrained in the industry’s DNA and are personified by many of the industry’s leaders, starting with Canadian Ned Mundell, founder of what is considered to be Canada’s first independent leasing company, Canadian Dominion Leasing (and later CEO of the giant U.S. Leasing, the first independent leasing company south of the border). In the early days of the leasing business, there were no rules, Mundell said. You were free to try anything because you weren’t tied down with traditional patterns or rules.… This meant you were free to innovate. The mantra of the business was: ‘What do we need to create now?’ as opposed to ‘business as usual.’

The asset-based finance industry has faced many obstacles, including a global financial crisis and several recessions. It has weathered dramatic changes in the marketplace, technology, the mechanics of funding, and the market reach of the industry. The industry has survived a rollercoaster ride thanks to leaders who were innovative, determined, and resilient enough to take risks and guide the industry through transformation and renewal.

Steve Hudson, founder of Newcourt Credit Group and later CEO of Element Financial Corporation, put it this way: You can knock down the asset-based finance and leasing industry, but it is always going to come back in one way or another.

Hence, the title of this book: Unstoppable.

Asset-based financing is offered by banks, credit unions, insurance companies, government financial institutions, manufacturer finance companies, independent finance companies, and vendors. But asset-based finance is not the same as a classic loan. The industry complements the work of conventional lenders but stands alone as its own, alternative way of financing.

As its name suggests, asset-based finance is the financing of a specific asset—a vehicle or piece of equipment—commonly by way of a lease, loan, conditional sales contract, or line of credit. In the early days, this financing was chiefly available by way of a lease, but in later years, it has also been increasingly offered by way of a loan, conditional sales contract, or line of credit. The customer doesn’t actually own the equipment or vehicle; the company owns it until the customer either buys it or returns it. The asset is the principal collateral for the customer’s obligation to make regular payments.

This has implications for both the financing company and the customer. It affects the way a financing company decides on credit applications. The essential determining factor is not customer net worth, as it would be in conventional lending, but cash flow. Can the customer afford the monthly payments? Can the business customer generate sufficient revenue by using the asset? From the customer’s point of view, this form of finance offers an advantage: it allows them to use vehicles or equipment without using up their regular bank credit.

Being both creative and complex, the industry’s very nature demands a number of specialized skills from the people who work in it. First and foremost, they must understand the equipment or vehicle and its value at every stage of its useful life. From receipt of the customer’s credit application to the asset’s return or repossession, the finance company must know what the asset is worth. This is crucial for the company to safeguard its position. In the case of a lease, finance companies must accurately forecast the value of the asset in the event they get it back several years later.

Second, finance companies build multiple relationships, not just with customers but with vehicle and equipment manufacturers, their distributors, and dealers. They do this both to gain a deep understanding of the value of the asset and to become an indispensable part of the selling process. By providing financing and specialized knowledge, they help the buyer to buy and the seller to sell.

In my years with the Canadian Finance & Leasing Association, I have admired the industry’s professionalism and entrepreneurial drive and the sheer brainpower steering it all. Above all, the passion for business and commitment within this industry is remarkable. Very few people planned a career in this industry. Most found it by happy accident and prospered. But those who arrived mostly stayed, sometimes working together as colleagues or competing as rivals over thirty to forty years, changing companies as they were merged, consolidated, or closed. And companies were always re-emerging, with colleagues working under a new corporate banner, bringing their experience and expertise to boost and expand the business. When banks and credit unions offer asset-based financing, they usually entrust the job to people who have made their careers in this business.

In closing, I want to thank author Beth Parker and editor Bernard Simon, who have managed the challenging double feat of producing a book about a little-known industry that is both informative and entertaining. Beth started with a blank canvas because there is so little written about this business. Her extensive interviews with so many who have generously and enthusiastically given their support are yet another reflection of the people who played an integral role in this industry over the decades.

This book began as a project to mark the fortieth anniversary of the founding of the Canadian Finance & Leasing Association, the industry’s trade association. But it quickly became much more: Unstoppable is a celebration of Canadian business at its best and of the Canadians who made it happen.

David Powell, President and Chief Executive Officer

Canadian Finance & Leasing Association

Association canadienne de financement et de location

Toronto, Ontario

September 2014

Preface

FROM THE START, it was clear that Unstoppable: The Story of Asset-Based Finance and Leasing in Canada would be a history told by the men and women who guided the industry from its inception. If nothing else, the research and writing for this project demonstrated that just because you can’t find it with Google doesn’t mean it didn’t happen.

The process began over lunch with two successful, now retired Canadian businessmen, both in their eighties—Bill Bell, a former president of Pitney Bowes Leasing Canada, and Ben Young, former vice-president and part of the founding family of The Hamilton Group. Many interviews later, the pieces of a vibrant and fascinating industry began to take shape.

The most inspiring part was uncovering the qualities of the people who developed the industry. It is a story of pioneers, leaders, mentors, and inventors. Personal respect and professionalism permeate the industry, despite fierce competition and high pressure. In hindsight at least, most competitors were considered worthy opponents. Honesty and straight talk prevailed. There was no holding back of information or wrapping the industry in mystique.

The industry definitely has its heroes—and their counterparts: some successful in the short-term but fading over the long haul; others foolhardy opportunists who pushed the envelope too far, reflecting poorly on the industry and triggering government reaction. This is a business where serious profits are to be made and a lot of money could be lost. The temptation to increase risk for the sake of profit is described by some as a kind of addictive drug. Industry leaders, policymakers, regulators, accountants, and lawyers have laboured to understand the constantly evolving industry and bring order to aspects of its freewheeling nature.

Those interviewed presented a warts and all picture of what worked and what failed. When I asked billionaire Jimmy Pattison to comment on his tremendous success, he replied, Well, I got a lot of scars on my back from doing the wrong thing. Yet there was always a pervasive sense of optimism—an ongoing we’ll work it out attitude that emerged even when someone had bounced, by circumstances beyond his or her control, from acquired family business to merged conglomerate.

Finally, I can’t emphasize enough the generosity of each individual in taking time to share information and explain it to a novice. These are busy people, many working at senior levels in Canadian banks and other financial institutions or running Canada’s (and in many instances North America’s) largest companies.

At the top of the list is CFLA president David Powell, who trusted me with the project and reached out to his vast network to encourage participation. During the course of my interviews, Powell was praised without exception for his intelligence, diplomacy, and leadership.

Roman Oryschuk, former vice-president of General Electric Company and the president and CEO of GE Capital Solutions Europe, provided a soup to nuts picture of the industry. Stanley Hartt, one of Canada’s most respected lawyers, businesspeople, and political thinkers, welcomed the challenge of explaining the 2008–09 global financial crisis. Steve Hudson candidly reflected on turning points in his remarkable—and still unfolding—career. So many of you patiently reviewed my emails that asked you, one more time, to explain ever-evolving leasing terms, interpret an arcane tax ruling, or recall a complex round of acquisitions. Without exception, your responses were prompt, helpful, and encouraging.

The effort was worth it. These are your stories, and they now represent a vital part of your industry’s history.

Beth Parker

Acknowledgements

IN ADDITION TO the interviewees named below, the Canadian Finance & Leasing Association (CFLA) would like to thank Tracy Bordian, John Jackson, Liz Milroy, Doug Moore, Trevor Mosley, Sarah Scott, Bernard Simon, Geordie Smith, Robin Somerville, Gary Thompson, and the staff at the CFLA.

The following participants generously donated their time and expertise in the writing of this book:

We have endeavoured to tell the most comprehensive story possible of the people and products that built and sustained Canada’s asset-based finance and leasing industry. With little published information available, we have relied principally on the memories of those active in the industry over the years. If you notice an error or serious omission from the narrative—whether a person or an event—please email details and any relevant comments to [email protected].

chapter 1

Asset-Based Finance: A Pillar of the Economy

Take a look out at the highway; take a look at the trucks, trailers and cars passing by. Now ask yourself: What’s in those trucks? The appliances, equipment, machine parts, vehicles, computers, network systems, microchips.… The leasing industry finances so much outside the financial world that people don’t realize, and through the decades it has become part of every industry and come to support every business.

Richard McAuliffe, senior vice-president and chief

operating officer, Key Equipment Finance Canada

MENTION ASSET-BASED finance and only a few Canadians will have any idea what you are talking about. Ask them what they know about leasing and they are likely to think no further than their car or the office photocopier.

Yet leasing and other asset-based finance techniques have been with us for a long time, becoming a pervasive part of our everyday lives. Some argue it started 4,000 years ago with the ancient Sumerians, who marked leases on clay tablets for agricultural tools, land and water rights, and oxen and other animals.¹ Canada’s first telephones for commercial use were leased to Prime Minister Alexander Mackenzie in 1877. And until a 1982 regulatory ruling, Canadians were simply not allowed to have a telephone through any other arrangement except a lease.²

Today, estimated at $300 billion, asset-based finance, including leasing, is the largest source of debt financing to businesses and consumers in Canada outside of traditional bank and credit union lending. This form of financing has made a widespread contribution to economic growth and improved living standards. In both its 2004 and 2014 reports, the Centre for Spatial Economics examined the linkages between the financial services sector, productivity, and economic growth. The 2004 study concluded that CFLA member financing had boosted Canadians’ living standards by 2.3 percent between 1992 and 2002, equal to about 8 percent of the total increase in Canada’s living standards during that decade.³

Noting that the asset-based finance industry provides access to capital outside traditional banking, the report added that the analysis … confirms that, in the absence of the asset-based finance industry, capital formation would be adversely affected, growth in equipment investment would be lower—and Canadian living standards would suffer.⁴

Two of Canada’s prominent economists agreed. Jim Stanford, chief economist for the Canadian Auto Workers union (now Unifor), and Jack Mintz, then chief executive of the C.D. Howe Institute, both reviewed the report. Mintz remarked:

This unique study overwhelmingly demonstrates the importance of asset-based financing to Canada’s economic growth by supporting greater financial product choice and innovation. The industry contributes a disproportionate share to higher living standards.⁵

Ten years later, the Centre for Spatial Economics completed another multinational analysis of economic data that further supported this conclusion. The 2014 study found that the $34 billion of new equipment and commercial vehicles financed in 2013 by the public and private sector is estimated in that year to have added $14.2 billion to Canada’s gross domestic product (GDP), to have supported an initial 100,000 jobs for that year, and to have provided governments with an additional $4.3 billion in revenue. In subsequent years, the use of machinery, equipment, and commercial vehicles financed by this 2013 spending will each year add an average of $8.9 billion to the GDP, support 27,800 long-term jobs, and provide governments with an additional $0.7 billion in revenue.⁶

These figures speak directly to the strength and importance of this industry.

Dynamics of a healthy economy

Asset-based financing is an important determinant of investment spending, economic growth, and improved standard of living. Such forces are linked and asset-based financing is an important contributor to a healthy economy. Healthy, functioning financial markets are necessary to ensure that needed investment takes place so as to improve productivity, to support new jobs, and to raise the standard of living in Canada and for all other nations.⁷

Looking to asset-based financing? The choices are endless.

Driven by imagination and resolve, the scope of asset-based finance these days has almost no bounds. The everyday items we usually associate with this type of financing—cars, trucks, and office equipment—are far from the only items to be financed in this way. The ingenuity of this type of financing now extends to airliners, golf carts, turf-building equipment, ice-making machines, spa chairs, magnetic resonance imaging (MRI) systems, railway cars, lobster traps, casket-lowering devices, dairy cows, hotel room key card entry systems, and fleets of branded delivery vehicles for everything from pizza to pet grooming. The list includes not only aircraft but the wheels attached to them; not only computers but the software that drives them, keeping wide swaths of the economy running smoothly and giving many companies their competitive edge.

And there is more. Asset-based finance companies have created a one-stop shop by adding an array of other useful services. A leasing deal now covers such essential services as repairs and maintenance, insurance, training packages, freight, installation, and technology upgrades covering both hardware and software. We not only lease the trucks, said one company executive. We provide the safety training for the drivers.

Unstoppable progress

A hallmark of asset-based finance is the industry’s never-ending drive to renew and reinvent itself, regardless of the obstacles. Instead of stepping back when economic slowdown altered the business environment, leaders found ways to turn crisis into opportunity: new channels for credit were uncovered and visionaries launched new products and services. As Roman Oryschuk, chief executive of GE Capital Canada Equipment Financing from 1993 to 2003, noted, "The defining moments in the asset-based finance industry have been the economic recessions."

During the competitive 1980s, a new technique known as securitization further stimulated growth by reducing providers’ cost of funding and diversifying risk among a broader group of investors. When the 1989 federal budget severely restricted capital cost allowance (CCA) benefits and created a more complex tax mechanism, industry leaders wasted no time in coming up with new strategies and marketing programs. More recently, the industry staged a robust recovery from the damage caused by the 2008–09 global financial crisis. Initially tarred from fears spreading from other asset classes in the global securitization market, the industry stepped up to be part of the solution. Leaders were steadfast in their argument that the securitization freeze was caused by ripple effects from other corners of the financial markets, not by inherent defects in the industry. And as the story unfolded, history proved them right. Canadian business thrives because of the asset-based finance industry.

Financing options to business

Asset-based financing expands the financing options available to businesses in Canada. Without the ability to lease, many businesses would find it more difficult, more risky or impossible to acquire equipment. Consequently, business choice would be restricted to either buying the equipment and financing the purchase through internal or borrowed funds, or not acquiring the equipment at all.⁸

Setting the stage for financial innovation

Asset-based financing in North America has its origins in the quest by businesses to gain access to essential but costly equipment without having to rely on typically risk-averse and slow-moving traditional lenders.

Among the early pioneers were railroad companies, which turned to outside investors to finance their railcars. The railroads were not interested in long-term control or ownership of the railcars. So investors pooled their funds, bought the cars from the manufacturer, and then allowed the railroads to use them under short-term contracts in the form of equipment trust certificates or leases. At the expiry of a previously agreed term, the car and its title would revert to the investor, or lessor. Both sides benefited from these arrangements: the railroads gained the use of a piece of vital equipment for a fraction of its useful life and at a fraction of its total cost while the outside investors retained ownership and—most important—reaped substantial tax benefits.

Commercial lending vs. leasing

Commercial lending and leasing are different products, each with an important role to play in offering alternative forms of financing to Canadian businesses and consumers. Leasing is not simply a form of passive lending. It is a separate, very pro-active commercial discipline. It is an asset management–based business.⁹

Two big steps forward

The attractions of asset-based financing were immediately clear, but two additional factors played a big role in nurturing this young sector:

1. Tax benefits. Until 1976, Canadian and U.S. tax laws allowed 100 percent of lease payments to be treated as expenses for accounting purposes, thus making them fully tax-deductible. This meant companies could defer large amounts of taxable income through a capital cost allowance on lease portfolios and equipment purchases if they were considered to be the owner of the asset. Sometimes such transactions were carried out by wealthy individuals who would typically create consortiums among themselves by buying a costly piece of equipment, such as an aircraft, and then leasing it to a company, such as an airline. Each investor could write off its portion of the purchase for tax purposes, a practice that worked particularly well on long-term assets.

2. Banking laws. Until 1979, the Bank Act kept Canadian banks out of leasing because regulators deemed the business to be too risky for financial institutions funded by individual depositors. These restrictions cleared the way for a group of imaginative and ambitious entrepreneurs to create other means of financing vehicles and other equipment. These pioneers helped spur the massive growth in asset-backed financing, especially in the second half of the twentieth century. The law was not relaxed until 1980, and even then it allowed banks to offer lease financing of equipment and large vehicles only, not passenger cars.

Acceptance and sales finance companies

Big ticket leasing, involving financings of $1 million or more, began as a specialty of acceptance companies (also known as sales finance companies), which were key players in the sector until the early 1980s.¹⁰ They helped an ever-widening range of businesses finance the acquisition of costly industrial and transport equipment, including locomotives, ships, mining and logging equipment, buses, shipping containers, and aircraft. As described by Hamish Smith, who pursued big ticket leasing throughout his career in numerous asset-based finance and leasing companies, "Big