Long-discussed lease accounting rules from the Financial Accounting Standards Board are finally a reality, going into effect for public companies in 2019. Although 2019 may seem to be a ways off, the SEC requires 2 year look back comparative financial statements so companies will need to be able to show the impacts from the new rules beginning in 2017!
There’s no question the new rules will have a tremendous impact on what is included on organizations’ balance sheets, and that’s a cause for concern for some.
But the point of this blog isn’t to say what will or won’t show up on a balance sheet.
How analysts talk about financial ratios and other metrics is one thing.
The more pressing discussion is how companies should organize their information, processes and internal controls.
In many circles, the use of spreadsheets – which involve minimal controls and also allow for greater human error – is still widespread. A 2015 survey from the Altus Group found that more than 30 percent of accounting and property management in commercial real estate is still done in spreadsheets.
In preparation for the new standards, organizations need to take a full inventory of all of their lease documents – now. Compiling, reviewing and recording all of that global information – and incorporating it into new financial reporting processes – will not be a minor undertaking.
A recent survey from Deloitte found that just 15 percent of companies thought that implementing the new standards would be easy, while 47 percent thought it would be at least somewhat difficult, and less than 10 percent said they were extremely or very prepared.
Companies should also review any financing, employment agreements or other arrangements with terms tied to specific balance sheet metrics to see if those provisions will make sense when their lease liabilities and assets hit the balance sheet. Until organizations are clear on how the new reporting will affect those numbers, they should look to add a covenant to the contracts stating that the benchmarks will be adjusted once the rules are in effect.
Another important step is creating the proper corporate procedures and policies around how real estate leases metrics will be calculated and reported and ensuring they are followed consistently.
These policies – such as how discount rates are determined, how leases with renewal options will be handled, and more – should be created in cooperation with the proper accounting and finance teams to avoid confusion as the general scrutiny around leases increases.
Once companies have a roadmap to how they will organize and report all their data, they can see how to best structure their lease agreements to reduce balance sheet liability – whether that is through an emphasis on net leasing or other approaches.
These changes will affect organizations everywhere, with trillions of dollars of assets and liabilities being dropped onto balance sheets in 2019. Pro-active companies should get to work now to both identify the financial impacts and create the internal structure and systems to manage the transition smoothly.