When important new accounting standards are under development, forward-thinking companies often look ahead to anticipate possible changes and work ahead so they don’t have to scramble when the standard takes effect. Some companies already are doing some of that work with leases, experts say.
But the lease accounting proposal – a joint effort of the US Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) – barely received approval for exposure from FASB on a 4–3 vote. One of the proposal’s supporters, FASB Chairman Leslie Seidman, retired at the end of June, and there is no guarantee her replacement on the board, Jim Kroeker, will also support the proposal.
Meanwhile, a US industry group, the Equipment Leasing and Finance Association (ELFA), outlined its disagreement with the changes immediately after the ED was released in May. And a coalition of more than 30 industry associations, including ELFA and the US Chamber of Commerce, submitted a comment letter saying the proposed standard may result in substantial costs to businesses and lack any benefits for investors.
John Hepp, CPA, a partner in Grant Thornton’s National Professional Standards Group, said his firm generally encouraged a wait-and-see approach on measurement with regard to the developing standard before the ED was issued May 16th. He said that until comments are published from an exposure period that ends September 13th, it may still be a good idea to be cautious about making significant programming changes.
A lack of consensus over how leases should best be represented on balance sheets is fuelling uncertainty about the proposal, Hepp said. The boards have proposed a dual-recognition model that calls for lessees to report a straight-line lease expense in the income statement for most real estate leases, and for lessees to report amortisation of a leased asset separately from interest on the lease liability. Assets and liabilities would be recognised for leases of more than 12 months.
“I’ve heard people say at different boards and other places that there is a consensus that leases should go on the balance sheet,” Hepp said. “That’s probably a true statement. But that consensus breaks down when it comes to how would you measure that on the balance sheet and how do you recognise the amounts in net income.”
Nonetheless, Hepp said, companies may want to take inventory of their leases now. And KPMG Accounting Change Services Lead Partner John McGaw, CPA, said there are preparedness activities that many companies could be considering. KPMG is not advocating that all companies perform all steps, McGaw said, but he recommends that companies make educated decisions based on their individual facts and circumstances.
According to McGaw, examples of preparedness activities some companies have started include:
- Gaining an understanding of the leasing activity in the organisation, including where and how leases are originated, administered, and accounted for.
- Evaluating the broad potential impacts of the proposed standard, including systems and processes, people and change, and other business implications.
- Compiling a complete inventory of individual leases in the organisation.
- Evaluating the ability of existing leasing systems to meet the reporting and remeasurement requirements of the proposed new standard.
- Identifying additional lease terms and accounting assumptions that will be required.
- Considering opportunities to drive business intelligence and other lease administration benefits.
Compiling an inventory of leases might be difficult for some companies, McGaw said. For example, a global diversified consumer goods or industrial company with plants and offices in locations around the world may have significant real estate and equipment leasing activity.
“In [some] organisations, they might have to go through a more robust activity to understand where all of the arrangements that will be considered leases under this standard originated and where they’re administered and accounted for in their organisation,” McGaw said.
Leasing administration generally is not centralised in organisations, McGaw said. So a company may have to search throughout its geographic locations and its departments to get a complete inventory.
If the standard moves forward as proposed, companies also are likely to need more advanced systems to track them. Many companies – even very large ones – do their lease accounting on a spreadsheet, according to Hepp. Currently, he said, leases go somewhat on autopilot after they are evaluated at inception.
“Under this provision, your financial people are going to have to have far more information about each lease and check it far more often,” Hepp said. “Because there are a lot of circumstances where leases will change, the amounts that are recognised on the balance sheet will change. Just the necessity of doing an impairment test on the right-of-use assets is going to be an amazing change.”
Hepp said he wouldn’t necessarily be looking to measure items in leases at this point because the final measurement rules haven’t been determined. But he said examining the features in leases – renewal options, embedded contingent payments and even embedded derivatives – could be a useful exercise.
Because the proposed standard would require reporting of more information on leases and additional attention from the finance staff, a more advanced system may be needed. McGaw said companies may want to consult with their software providers to see if they are developing solutions for the more complex accounting for leases.
Time left to comment
Companies also may want to engage their industry groups to provide FASB and the IASB with co-ordinated responses to the proposal, McGaw said. He said companies in some industries have found that it’s beneficial to be aligned in their financial reporting, and that can start with being aligned with feedback in the standard-setting process.
But until those comments are reviewed and acted upon, it may be difficult for companies to assess what the final standard will look like. IASB Chairman Hans Hoogervorst said he hopes a final standard will be approved in the first half of 2014, and the effective date is considered unlikely to come before 2017, so there is time for companies to watch things unfold.
It’s possible, too, that the proposal will unravel. Hepp said he is not convinced that the boards have the right model yet. He said there is “significant uncertainty” over the model the boards developed because, although users agree that leases should go on the balance sheet, they disagree on the best method for putting them there.
And FASB’s slim minority in approving the proposal for exposure indicates that it could face stiff resistance now that a supporter – Seidman – has left the board.
“It’s hard to predict at this point in time,” Seidman said when the proposal was released, “how the existing board members will react to [stakeholder] feedback, let alone a new board member.”
—Ken Tysiac (email@example.com) is a CGMA Magazine senior editor.