Note: This post orgionally appeared in the Realcomm Advisory.
After almost ten years of discussions and meetings, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) have finally issued new standards related to accounting for real estate and equipment leases.
Companies have always had to disclose lease information, but it was traditionally done in the footnotes of their financial statements, rather than the balance sheet. This new standard brings most leases onto the balance sheet. According to The Wall Street Journal, this move will increase the liabilities of public companies in the US by about $1.5 trillion.
Off-balance sheet accounting has been a subject of controversy since the late 1990’s, escalating with the Enron bankruptcy in 2001. In 2005, the SEC identified leasing as a form of off-balance sheet accounting that needed to be handled differently. FASB and IASB set out to address it.
The Boards issued two exposure drafts, one in 2010 and one in 2013 and undertook extensive outreach –including fieldwork meetings where members of the Boards and staff visited financial statement preparers, both public and nonpublic, lessees and lessors.
Over the years, there were various rumors and hints that the release of the final standards was forthcoming. At long last, FASB released the new standards on January 26, 2016.
“We believe that this new standard is important because it will provide investors, lenders and other users of financial statements a more accurate picture of the long-term financial obligations of the companies to which they provide capital,” said FASB Chairman Russell G. Golden.
The new standard is effective on January 1, 2019 for calendar year-end public businesses, and January 1, 2020, for non-public businesses. Although this may seem far away, ultimate compliance with the new rules in 2019 will require lookback reporting for 2017 and 2018. Yet despite the fast approaching deadline, only 9.8 % of more than 5,400 financial and accounting professionals who responded to a Deloitte poll say their companies are prepared to comply. Not surprisingly, respondents with a large number of leases, like retailers, expect the most difficulty implementing the new standards.
Lease Data Management
The first step is to ensure that the organization has a centralized, electronic repository of all real estate and equipment leases. Many retailers still maintain lease data in spreadsheets, physical documents or decentralized computer systems. Moving lease data into a standard, digitized format will be essential for a smooth transition.
In addition, compliance with the new standards requires information from the lease that many retailers are not abstracting today. Capitalizing a lease under the new guidelines will require more than 15 pieces of information about each lease longer than 12 months, including existing leases.
FASB/IASB Administration Software
In addition to data management, most organizations with many leases, or particularly complex leases will need to implement FASB/IASB management software designed to ensure timely, accurate, and reliable quarterly and annual financial reporting. Retailers should consider solutions that have the following capabilities:
- Real estate and equipment lease management
- Lease amendment revision management
- Detailed FASB/IASB calculation schedules
- Audit trail tracking and reporting
- 10-K and 10-Q reporting capabilities
- Integration with the organization’s accounting system
Is this a lease administration, finance or IT problem?
Yes. While finance departments are charged with producing the balance sheet and other financial documents, the details required about each lease in order to achieve capitalization will require extensive involvement of corporate real estate teams. Most organizations will determine that the best place to house the required lease data, determine which leases must comply with the new standard, and create the calculation schedules will be in the systems used for day-to-day lease administration and management.
Preparation for the new standards and the ongoing creation of lease schedules will necessarily be a cooperative effort.
How to Get Prepared
For most retailers, getting prepared to comply with the new standards will require several steps:
- Create a cross-functional team to scope the project and oversee implementation
- Craft a detailed implementation plan that takes into consideration various stakeholders, geographies, and IT systems
- Make an objective assessment of how much time will be required to gather the necessary data about each lease and determine if you will use in-house resources or partner with a services firm for lease abstraction and data entry
- Assess your current lease management and accounting systems to decide if they can support compliance with the new standard including new data fields, calculations and reporting requirements
- Review internal controls and processes. Because leasing data will become much more relevant to financial statements, it will likely receive enhanced scrutiny from auditors and regulators. Organizations should assess their controls regarding lease data and accounting.