It’s been over 6 months since the first instance of lease accounting reporting under the new FASB ASC 842 standard was due.
In Q1 2019, public companies handed in accounting reports that showed, for the first time ever, operational and financial leases on the balance sheet together. To no one’s surprise, the journey to get to this final reporting was far from smooth sailing.
Experts had long predicted the new lease accounting standard would be an uphill climb. After all, it’s a complete 180 from traditional accounting.
And with the next deadline less than 18 months away, private companies would be wise to do their homework and get started now.
After helping hundreds of companies implement lease accounting for FASB ASC 842, we’ve learned a thing or two about the challenges, roadblocks and questions you’ll face as you prepare to implement the new lease accounting standard.
Here are our top 5 lessons learned.
Lesson #1 - Double What You Expect to Spend
The truth is, lease accounting compliance will most likely take up more time and money than you expect.
This is the unfortunate reality most companies faced last year.
What specifically will make it more time-consuming? According to EY it includes:
- Decentralized operations - Management of lease agreements and related accounting is in a decentralized state for 39% of companies.
- Convoluted processes - A lack of organization or communication about processes for tracking leases.
- Non-standard contracts - There’s no set format for contracts, so there’s no easy way to locate the lease in each contract.
- Volume of leases - The more real estate leases, equipment leases and contracts (embedded leases), the more resources you’ll spend on implementation.
We recommend estimating the time and money you spend on lease accounting normally, and doubling it. For most companies who worked with us, we found the implementation process took 4-6 months on average.
Lesson #2 - Establish a Project Team & Plan
One of the biggest mistakes you can make is going into lease accounting compliance without a plan of attack.
Your first order of business should be to establish a project team and a project plan.
Take account of internal stakeholders. Assess whether or not you have enough manpower and subject matter expertise to tackle the project. There’s no shame in hiring outside resources to fill the gaps, and many companies were relieved they asked an advisor to help.
You should include decision-makers from every applicable department on your project team:
- Lease procurement
- Business operations
Once your team is ready, you’ll need to construct a project plan. A lease accounting compliance project plan should include a checklist with team assignments, a timeline, and the project phases.
Project phases can be broken down into many steps, but the three main categories are:
- Diagnostic phase
- Planning phase
- Implementation phase
A project team and a project plan are the foundation of your implementation. Without them, the process will be much slower and more painful.
Lesson #3 - The Biggest Lease Accounting Obstacle
One of the most unforeseen facts about adoption of the FASB ASC 842 that experts have been commenting on recently is how hard it is to identify a complete population of leases.
In fact, nearly 55% of companies who’ve started implementation are finding FASB ASC 842 compliance more complex than originally anticipated.
And it’s all because they’re having trouble saying they are 100% sure all their leases are accounted for.
Under legacy accounting standards, the treatment of leases and service contracts was the same. So no one had to deal with finding every single lease.
That means you’re not alone if you don’t have a process in place to distinguish between the two.
That’s just one reason it’s so hard to make sure you’ve got every lease on the roster. The other major one is that the more leases you have, the harder it will be to know for sure whether you’ve covered the complete population.
So how do you overcome this obstacle?
Get down on paper exactly how your current leasing activities and processes work (see the Diagnostic Phase noted above). And understand if you have operating leases embedded in service contracts.
Lesson #4 - Update Your Accounting Policies
Although it’s tempting to view the new lease accounting standards as a one-time event, it’s actually an opportunity to reevaluate and improve current processes.
Updating your accounting policies is a must for FASB-compliant reporting now and in the future.
You’ll need to create two sets of policies.
The first should calculate your transition adjustments and continue to account for leases that began before your effective date. The other policy should account for new or modified leases on or after your effective date.
You may also want to consider making elections that could save your team a lot of time. One of these is called a practical expedients package. It essentially allows you to pass on reassessing whether contracts that started before the effective date are leases.
Another election to research is a risk-free rate. If approved, you can use it for the initial and subsequent measurement of lease liabilities and right-of-use assets.
When it comes to accounting policies and elections, understand the pros and cons. There are risks involved, but there are also rewards for those who are focused on long-term benefits.
Lesson #5 - Consider Lease Accounting Software
Experts at the Big 4 accounting firms have a solid opinion about lease accounting software: In short, they recommend it.
The new accounting standard requires companies to gather more data and disclose more information about their leases.
It gets complicated fast.
And because they know most companies are using a spreadsheet for lease accounting, industry experts are touting the benefits of using software for implementation. Spreadsheets lead to a lot of risks:
- Data input errors
- Accidental changes
- Unintentional deletions
- The potential that incorrect formulas may be used
This new standard is so complex and the errors from manual data entry so unavoidable, many financial advisors are recommending their clients consider adopting technology.
And not only does lease accounting software erase complexity, it has saved companies time and money.
Admittedly, implementing software hasn’t been the easiest part of implementation. In a KPMG survey, 92% of respondents said they’ll need to upgrade their IT systems or invest in new technology because of the lease accounting guidelines.
77% of respondents said technology represents the most challenging part of compliance.
We understand the time-consuming nature of the software implementation beast. To evaluate, choose, and fully adopt a solution takes weeks, sometimes months.
That’s why we’re so bullish about the implementation timeline: Getting started as soon as possible is the right decision.
Conclusion: Do Your Homework
The scariest part of getting started with anything new is going in blind.
By sharing the lessons we’ve learned over the past 18 months of implementation with all kinds of companies, we hope to eliminate that fear for you.
Understanding what you’re up against when it comes to lease accounting compliance implementation is the first step to successful reporting.
And if you need an expert to walk you through the process or answer any questions, just reach out. Our team has over 20 years of experience and we’re well-versed on the new lease accounting standards. Of course, we’d be happy to walk you through our industry-best software, too.