Corporate Financial Reporting Practices in Bangladesh: a Case on Leasing Companies

Literature Review

Lease Financing

Lease is a contract between the owner and the user of assets for a certain time period during which the second party uses an asset in exchange of making periodic rental payments to the first party without purchasing it. Under lease financing, the lessee regularly pays the fixed lease rent over a period of time at the beginning or at the end of a month, 3 months, 6 months or a year. At the end of the lease contract the asset reverts to the real owner. However, in case of long-term lease contracts, the lessee is generally given the option to buy the leased asset or renew the lease contract.

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The three major types of leases are the operating lease, financial/capital lease and the direct financing lease. The operating lease is a short-term lease contract where the lessor bears all operating and repairing costs of the asset and the lessee pays periodic rental payments to the lessor, and where the lease is cancelable, and there is no bargain purchase option. Financial/capital lease is a long-term lease contract where the lessee bears all operating, repairing and maintenance costs, and makes periodic rental payments to the lessor.

The lease is not cancelable and the lessee has the option for bargain purchase or renewal of lease contract at the end of the original lease period. In a direct financing lease, the lessor leases the asset by manufacturing or by purchasing from the manufacturer to the lessee directly and the lessee makes regular rental payments to the lessor. The lessor holds the ownership of the asset until the end of the lease period and the lessee holds the possession of the asset. In addition to these major types, there are some other types of lease such as sale and lease and leveraged lease.

Legally, a leasing company is defined as one having the business of hiring plants or equipment or of financing their hire by others. The International Finance Corporation promotes leasing as a method of financing industrial development in the developing countries as a part of its capital market development strategies.

International Financial Reporting Standards

International Financial Reporting Standards (IFRS) are Standards, Interpretations and the Framework adopted by the International Accounting Standards Board (IASB).

Many of the standards forming part of IFRS are known by the older name of International Accounting Standards (IAS). IAS were issued between 1973 and 2001 by the Board of the International Accounting Standards Committee (IASC). On 1 April 2001, the new IASB took over from the IASC the responsibility for setting International Accounting Standards. During its first meeting the new Board adopted existing IAS and SICs. The IASB has continued to develop standards calling the new standards IFRS. Structure of IFRS:

• IFRS are considered a "principles based" set of standards in that they establish broad rules as well as dictating specific treatments. International Financial Reporting Standards comprise:
• International Financial Reporting Standards (IFRS) - standards issued after 2001
• International Accounting Standards (IAS) - standards issued before 2001
• Interpretations originated from the International Financial Reporting Interpretations Committee (IFRIC) - issued after 2001
• Standing Interpretations Committee (SIC) - issued before 2001
• Requirements of IFRS: IFRS financial statements consist of (IAS1. 8):

Statement of Financial Position

• a comprehensive income statement
• either a statement of changes in equity (SOCE) or a statement of recognised income or expense ("SORIE")
• a cash flow statement or statement of cash flows
• notes, including a summary of the significant accounting policies
• Comparative information is provided for the previous reporting period (IAS 1. 36).

An entity preparing IFRS accounts for the first time must apply IFRS in full for the current and comparative period although there are transitional exemptions (IFRS1. 7). On 6 September 2007, the IASB issued a revised IAS 1 Presentation of Financial Statements. The main changes from the previous version are to require that an entity must:

• Present all non-owner changes in equity (that is, 'comprehensive income' ) either in one statement of comprehensive income or in two statements (a separate income statement and a statement of comprehensive income). Components of comprehensive income may not be presented in the statement of changes in equity.
• present a statement of financial position (balance sheet) as at the beginning of the earliest comparative period in a complete set of financial statements when the entity applies an accounting
• 'balance sheet' will become 'statement of financial position'
• 'income statement' will become 'statement of comprehensive income'
• 'Cash flow statement' will become 'statement of cash flows'.

Rules applicable in Bangladesh

1. In Bangladesh, Financial institutions have to follow the rules and regulations issued by the Securities and Exchange Commission. According to the “Securities and Exchange Commission (Issue of Capital) Rules, 2001” following are the required documents and process of submission of financial reports for approval by the SEC:
2. The company to which consent to the issue of capital is accorded shall complete audit of its financial statements and, hold its annual general meeting within such period as may be specified by the Commission at the time of according the consent.
3. The said company shall submit a copy of such audited financial statements and a copy of its annual report and the minutes of its annual general meeting within fourteen days of the completion of the audit or, as the case may be, holding of the annual general meeting.
4. The Commission may, on application and on good cause shown, extend the time for auditing the financial statements or submission of the financial statements to the Commission, as the case may be.

The said company shall furnish the Commission the following information, along with the supporting documents and evidence, namely:

• change of registered address;
• change of directors;
• appointment of managing director;
• change of business or opening of new business;
• any material change that affects the affairs of the company.

Lease Financing in Bangladesh

Lease financing was first introduced in Bangladesh in the early 1980s. Industrial Development Leasing Company of Bangladesh Ltd. (IDLC), the first leasing company of the country, was established in 1986 under the regulatory framework of Bangladesh bank. It was a joint venture of the Industrial Promotion and Development Company of Bangladesh Ltd. (IPDC), International Finance Corporation, and Korea Development Leasing Corporation.

Another leasing firm, the united leasing company Ltd. started its operations in 1989. The number of leasing companies grew quickly after 1994 and by the year 2000, rose to 16. The leasing business became competitive with the increase in the number of companies and wider distribution of their market share. There are, however, 6 other companies conducting leasing business in the country, although they do not use the word leasing in their names. In terms of money value, the leasing business in Bangladesh increased from Tk 41. 44 million in 1988 to Tk 3. 16 billion in 2000.

The leasing companies now operating in the country are Industrial Development Leasing Company of Bangladesh, United Leasing Company, GSP Finance Company (Bangladesh), Uttara Finance and Investments, Bay Leasing and Investment, Phoenix Leasing Company, Prime Finance and Investment, International Leasing and Financial Services, Union Capital, Vanik Bangladesh, Peoples Leasing and Financial Services, Bangladesh Industrial Finance Company, UAE-Bangladesh Investment Company, Bangladesh Finance and Investment Company, and First Lease International. Lease financing, as organized in Bangladesh, operates with the following objectives:

1. to assist the development and promotion of productive enterprises by providing equipment lease financing and related services;
2. to assist in balancing, modernization, replacement and expansion of existing enterprises;
3. to extend financial support to small and medium scale enterprises;
4. to provide finance for various agriculture equipment;
5. To activate the capital market by operating as managers to the issue, underwriters, or portfolio managers.

The functions of a lease business include lease financing, short-term financing, house building financing, and merchant banking and corporate financing.

In this last group of functions, the leasing business in Bangladesh moved away from regular leasing activities and is now involved in stock-market related activities such as issue management, underwriting, trust management, private placement, portfolio management, and mutual fund operation. Broad capital market operations of the lease financing institutions include bridge financing, corporate counseling, mergers and acquisition, capital restructuring, financial engineering, and lease syndication.

Prominent among the sectors of the economy that now receive lease financing services are textiles, apparels and accessories, transport, construction and engineering, paper and printing, pharmaceuticals, food and beverage, chemicals, agro-based industries, telecommunications, and leather and leather products. Commercial banks and development finance institutions (DFIs) have been the traditional lending institutions in Bangladesh. In fact, the concept of lease financing is a relatively new one in the country. Initially, leasing companies had to adopt the role of educators to make Bangladeshi entrepreneurs aware of the benefits of leasing.

However, as DFIs demonstrated poor recovery and fund recycling performances, leasing got the opportunity to develop as an alternative source of funding. A few other factors also contributed to development of the leasing business in the country. For example, the commercial banks have been keener in providing trade financing and foreign exchange dealings rather than long-term loans because of the risks involved and their longer gestation period. The selection of lease proposals is relatively free from extraneous pressure and is subject to a quality level appraisal.

Under lease agreements in the private sector, projects are sanctioned and implemented expeditiously, resulting in benefits in time and cost savings. Private leasing companies also attract clients by providing relatively better services. The down payments in leasing are not high and the gestation period is low. Also, in case of lease financing, incidental costs incurred in the process of import clearing, installation, and commercial production are capitalized, which substantially reduce the initial investment. Leasing companies, however, face some problems in conducting their business in the country.

The relatively slow growth of the demand side compared to the fast growth of the lease business is one such problem. This leads many leasing companies to operate in partial capacity. The culture of loan default that prevails in the country is also a deterrent. Leasing companies often find it difficult to raise funds through short- or long-term borrowing from money and capital markets. They are hard pressed to deal with the financial assets because of the present laws of the country, which are also not fully enforceable.

Leasing business is gaining increased importance in the economy of Bangladesh with its gradual transformation from an agrarian to industrial one. The government periodically revises the trade and industrial policy to create a liberal business environment both for domestic and foreign investment. Increased investment in the energy sector as well as in power, transport, telecommunications, water and sanitation, and safe disposal of wastes is expected to bring further opportunities for leasing industries.

Overview of the Organizations

Industrial Development Leasing Company of Bangladesh

IDLC has a significant contribution to capital asset financing to private sector industries in Bangladesh. Its business focus in the early years was in the area of 3-5 years term financial leasing with particular emphasis on balancing, modernization, replacement and expansion of existing units. Driven by the demand for funds from different classes of people and the competition with other similar institutions, IDLC diversified its functional areas into other financial services including short-term finance, corporate finance and merchant banking activities.

The leasing unit of the company provides finance for capital machinery including construction equipment, marine equipment, energy generation equipment, office and office automation equipment and transport. Through this unit, the company provides micro finance under hire purchase scheme and working capital finance to the enterprises, as well as to individuals of different . profession through the this unit. The merchant banking unit is engaged in capital/stock market operations, which includes both fee and fund based services.

Specific capital market oriented activities of the company are issue management, underwriting of public issue of shares and debentures, direct trading in the securities market, bridge financing, portfolio management, and venture capital finance, etc. Up to 31 December 2000, the company acted as issue manager for 9 companies whose share value totaled at Tk 858 million, while it underwrote shares of 13 companies of a total value of Tk 156 million. The company started investment portfolio activities in November 1999 and up to 30 June 2001, it opened 49 investment accounts.

The number of lease contracts approved and executed by the company up to December 2000 was 112 with monetary value of Tk 252 million. Most lease financing activities were in large, medium, and small industrial units and a very few were in real estate, transport, and trade and commerce. Up to 31 December 2000, it provided a net amount of Tk 156. 60 million as financing to a total of 131 projects. Sources of funds of the company are shareholders' equity and long-term liabilities, which totaled Tk 168. 49 million in 2000.

Shareholders' equity (Tk 53. 08 million) included share capital Tk 50 million, reserves and surpluses Tk 1. 5 million and profit for the year Tk 1. 93 million. The long-term liabilities (Tk 115. 41 million) were bank loan Tk 50 million, lease/security deposits Tk 30. 38 million, term deposits Tk 12. 60 million and portfolio investment deposit Tk 22. 42 million. Major components of the company's total assets in 2000 were its investments and advances that amounted to Tk 156. 60 million consisting of lease assets Tk 138. 09 million, advance for lease assets Tk 5. 14 million, hire purchase investment Tk 6. 70 million, and investment in shares and securities Tk 9. 34 million. The company has a board of directors with the managing director as its chief executive and in 2001, it had a total of 21 of employees.

Lanka Bangla Finance Limited

LankaBangla Finance Limited (here in after referred to as LankaBangla or the Company), a joint venture nonbanking financial institution, was incorporated in Bangladesh on 05 November 1996 as a Public Limited Company under the Companies Act, 1994 and in the name 'Vanik Bangladesh Limited'. It started commercial operation in the year 1997 obtaining license from Bangladesh Bank under the Financial Institutions Act, 1993.

LankaBangla also obtained license from Securities and Exchange Commission vide No. MB-1. 064/98-05 to operate in the Capital Market as Merchant Banker. Subsequently it was renamed as LankaBangla Finance Limited on 27 April 2005. The Company went for public issue in 2006 and its shares are listed in Dhaka Stock Exchange and Chittagong Stock Exchange on 17 October 2006 and 31 October 2006 respectively. The Company has a subsidiary company named "LankaBangla Securities Ltd" (formerly Vanik Bangladesh Securities Limited) with an equity interest of 99. 998% (15,299,694 shares of Tk. 0 each totaling Tk. 152,996,940) in the subsidiary company. The subsidiary is a private limited company incorporated under the Companies Act, 1994. The principal activity of the subsidiary is to deal with the securities as broker in the capital market having membership no. 132 with Dhaka Stock Exchange and 91 with Chittagong Stock Exchange. The Company has another subsidiary company named "LankaBangla Asset management Company Limited" with an equity interest of 99. 998% (2,499,950 shares of Tk. 100 each totaling Tk. 24,999,500) in the subsidiary company.

With institutional shareholding structure, educated & motivated human resources, friendly working environment & dynamic corporate culture has enabled LBFL to be a diversified financial services providing institution of the country. Technical support provided by Sampath Bank Limited, Sri Lanka has been working as a catalyst to emerge LBFL as most innovative financial solution provider strictly in compliance with the rules & regulations of Bangladesh Bank. The shareholding structure of LBFL consists of Commercial Banks, Investment Bank, Corporate & prominent Industrialists from home & abroad.

Provided that the Commission may extend the said period up to such time as it may deem fit. Notwithstanding anything contained in this rule, a member shall also have his accounts audited by an auditor who is a chartered accountant appointed by the Commission, whenever such audit is required by the Commission in the public interest, and the auditor so appointed shall furnish his report to the Commission in such form and within such time as the Commission may specify: Provided that the fee for such audit and all other expenses in relation thereto shall be borne by the member concerned. 6. Maintenance of books of account and other documents by stock exchange.

Every stock exchange shall prepare and maintain, as required by sub-section (1) of section 6, such books of account and other documents as will accurately disclose a true and fair picture of the state of affairs of the stock exchange at any point of time.

The books of account and other documents referred to in sub-rule shall include

• journals (or other comparable record), cash book and any other records of original entry forming the basis of entries into any ledger;
• ledgers (or other comparable record) reflecting assets, liability, reserve capital, income and expense;
• ledgers (or other comparable record) showing the position in respect of each member as on the settlement day of the securities which the member had bought or sold since the last preceding settlement day and which had been transferred through a clearing house maintained by the stock exchange;
• daily record of quotations and transactions of the stock exchange showing the time at which each transaction took place;
• record of transactions with banks;
• record of security deposits;
• register of members;
• register of authorized clerks;
• Minute books of the meetings of members, governing body and any committee of the general body of members or of the governing body.

The books of accounts and documents specified in this rule shall be preserved for a period not less than five years.

• record of all balance of all ledger accounts in the form of trial balances to be prepared at least once at the end of the six months of every year of account;
• record of transaction with the banks;
• contract books showing details of all contracts entered into by a member with other members of the exchange or counterfoils or duplicates or memos of confirmation issued to such other members;
• duplicates or counterfoils of memos of confirmation issued to customers.

The books of accounts and other documents referred to in sub-rule (1) shall be preserved for a period of not less than five years.

All persons authorized to deal in securities on own account in any stock exchange shall furnish a report of any personal transactions in securities on settlement of each accounting period in Form “D” to the head of monitoring and surveillance department of the stock exchange.

Submission of annual report by stock exchange

The annual report relating to the affairs of a stock exchange, as required by sub-section (2) of section 6 shall be submitted to the [Commission] not less than fourteen days before the meeting of the shareholders of the stock exchange before which it is to be laid.

Every such report shall be accompanied by a copy of the balance sheet and profit and loss account of such year audited by an auditor who is a chartered accountant.

Submission of annual report by issuers

The annual report required by section 11 to be furnished by an issuer of a listed security shall include a balance sheet, profit and loss account and cash flows statement, and notes to the accounts, collectively herein after referred to as the financial statements.

The financial statements of an issuer of a listed security shall be prepared in accordance with the requirements laid down in the Schedule and the International Accounting Standards (IAS) as adopted by the Institute of Chartered Accountants of Bangladesh (ICAB) Explanation-In this sub-rule, International Accounting Standard refers to the accounting standards issued by the International Accounting Standards Committee.

The financial statements of an issuer of a listed security shall be audited by a partnership firm of chartered accountants within the meaning of Bangladesh Chartered Accountants Order (P. O. 2 of 1973) consisting of not less than two partners in practice for a minimum of seven years none of whom were associated in any way with the issuer during the auditing period (which includes holding of securities by themselves or hrough spouse or any other relatives and their employees), in accordance with the International Standards of Auditing applicable in Bangladesh and the report of the Auditors shall be in Form “B” annexed to the schedule. Provided that, notwithstanding anything contained in this sub-rule, such financial statements may also be audited by an auditor appointed by the Commission, whenever such audit is deemed by the Commission necessary in the public interest and the auditor so appointed shall furnish his report to the Commission in such form and within such time as the Commission may specify: Provided further that the fee for such audit and all other expenses in relation thereto shall be borne by the issuer concerned.

Every issuer shall furnish the annual report, together with the balance sheet and the profit and loss account referred to in sub-rule (1) to the shareholders at least fourteen days before the general meeting of the shareholders of the issuer at which the report is to be laid before them and shall simultaneously furnish a copy of such report to the stock exchange or exchanges on which its securities are listed and to the [Commission].

An annual report referred to in sub-rule (1) shall, in addition to the matters required to be meluded therein by the Ordinance, these rules or any other law for the time being in force include such other statements, reports, documents, information or explanations relating to its affairs as the Commission may, by order in writing, require from time to time. Submission of periodical report by issuer. Every issuer shall, within one month of close of the first half-year, transmit to the stock exchange in which its securities are listed, to the security holders and to the Commission half-yearly financial statements which shall be prepared in the same manner and form as the annual financial statements.

Investments, loans and advances

There shall be shown under separate sub-heads the aggregate amounts respectively of the company’s

• Investments in and loans and advances to subsidiary companies controlled firms and other associated undertakings,
• Investments in listed companies other than investments in subsidiary companies and other associated undertakings,
• Investments in un-listed companies other than investments in subsidiary companies, and other associated undertakings,
• Investments in debentures and bonds issued by a Government, Municipal Committee or other local authority,
• Investments in immovable properties
• Other investments, loans and advances.

There shall be stated under sub-head 4(A) (i) the names of the subsidiary companies, controlled firms and other associated undertaking and the nature and extent of the investment made and loans and advances given in each case, showing separately, in the case of each subsidiary company and other associated undertaking, shares of different classes and of different paid-up values, debentures, loans and advances and, in the case of each controlled firm, the amount invested as capital and the amounts of loans and advances. In the case of loans and advances, the nature of collateral security shall be stated.

A company whose principal business is lending of money may give such information in consolidated form in the balance sheet and the details about the names and the extent of investments etc. in an annexure to the balance sheet.

There shall be stated under sub-head the names of the bodies corporate (in every case with the name of the managing agent, if any) in whose shares or debentures or bonds, investments have been made and the nature and extent of the investment made in each case, showing separately, shares of different classes and of different paid-up values, nature of the debentures, e. g. whether straight, convertible or redeemable and the rate of interest etc.

A company whose principal business in lending of money may give such information in consolidated form in the balance sheet and the details about the names and the extent of investments etc. in an annexure to the balance sheet.

There shall be stated under sub-head the names of the unlisted companies (in every case with the name of the managing agent, if any) in whose shares or debentures or bonds investments have been made and the nature and extent of the investment made in each case, showing separately, shares of different classes and of different paid-up values, nature of debentures, e. g. whether straight convertible or redeemable and the rate of interest etc.

The aggregate amount of any guarantees given by the company on behalf of the directors (including managing director), managing agents, managers or other officers of the company or any of them severally or jointly with any other person shall be stated separately, and where practicable, the general nature and amount of each such contingent liability, if material, shall also be specified; and Where determinable, the capacity of the industrial until, actual production and the reasons for shortfall, if any , except in a case where the Authority upon an application agrees that such information need not be disclosed in the public interest. 13. Where there has been any change in the basis of accounting, e. g. change in the mode of valuation of the stock-in-trade, change in the method of changing depreciation, such changes, together with the effects thereof, shall be stated by way of a note.

There shall be stated, by way of a note or otherwise

1. the basis on which foreign currencies have been converted into taka;
2. the general nature of any credit facilities available to the company under any contact, other than trade credit available in the ordinary course of business, and not availed of at the date of the balance sheet.

If in the opinion of directors, any of the current assets and investments, loans and advances do not have, on realization in the ordinary course of business, a value at least equal to the amounts at which they are stated, the fact the directors are of that opinion shall be stated by way of a note. 16. Except for the balance sheet for the year ending after the date of commencement of these rules, every balance sheet shall also give the corresponding amounts at the end of the immediately preceding accounting year for all items shown in the balance sheet.

This requirement shall, in the case of companies preparing quarterly or half-yearly accounts relating to the balance sheet as on the last day of the period which ended on the corresponding date of the immediately preceding year. Where any items shown in the balance sheet or included in amounts shown therein cannot be determined with substantial accuracy, an estimated amount described as such shall be included in respect of that item together with the description of the item.

No provision with respect to the information to be given in the balance sheet shall be deemed to require the amount of any items that is of no material significance to be given separately.

Any information required to be given in respect of any of the items in the balance sheet, if it cannot be included in the balance sheet itself, be furnished in a separate schedule or schedules to be attached to, and to form part of, the balance sheet.

Requirement as to cash flows statement

The cash flows statement shall be so made out as to disclose clearly the cash flows of the company from its operating, investing and financial activities, disclosing every material feature and in particular, the following:

• the major classes of gross cash receipts and gross cash payments from operating activities, using the direct method.
• interest paid on short term borrowing;
• taxes on income paid and/or deducted at sources.
• cash payments for acquisition of fixed assets, long-term payment and referred costs, investments, loans and advances;
• cash receipts from sales of fixed assets, intangibles and other long-term assets;
• cash receipts from repayments of long-term loans and advance;
• acquisitions and disposals of subsidiaries and other business units;
• interest and dividend received.
• cash proceeds from issuing shares at par, premium and discount;
• cash proceeds from issuing debentures, loans and other short or long term borrowings;
• cash repayments of amounts borrowed;
• Interest paid on long-term borrowings;
• dividend paid.

Investing and financing transactions that do not require the use of cash or cash equivalents should be excluded from the cash flows statements. Such transactions should be disclosed elsewhere in the financial statements in a way that provides all the relevant information about these investing and financing activities.

The amount of significant cash and cash equivalents held by the Company that are not available for its use should be disclosed.

The components of cash and cash equivalents at the balance sheet date together with a reconciliation of opening and closing balances thereof should be presented.

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