Tuesday, October 25, 2011

This month's boards meeting

On Oct. 19, the FASB & IASB again met to discuss the new lease accounting standard. In a marathon session (scheduled for 5 hours), they reached a number of decisions in several areas. (Note: in the discussion below, and elsewhere in discussions about this standard, "effective date" is the date companies must start reporting under the new standard, while "date of initial application" is the date, normally two years earlier for U.S. companies, as of which leases must be treated as capital once the new standard takes effect, due to the requirement to restate years shown as comparables in the annual report.)

Lessee transition
  • All existing capital leases will be carried over with no changes required. Previously, they had planned to require restatement of capital leases with variable payments or renewal options that would be treated differently under the new standard. They decided the benefit wasn't worth the cost, because in most cases the differences would be small (particularly given recent decisions to reduce recognition of variable payments and options).
  • The incremental borrowing rate to use for operating leases to be capitalized will be a single company-wide rate, not based on the individual characteristics of each transitioning lease.
  • Operating leases can be recalculated using either a "full" or a "modified" retrospective methodology. The same methodology must be chosen for all leases. Full means going back to lease inception and calculating the lease as capital. Modified is different from what was in the original Exposure Draft; I described it last month. They have clarified that the difference between asset and liability generated by this method is to be booked to retained earnings (no P&L impact).
  • The simplifications ("reliefs") mentioned last month were all confirmed: leases that terminate before the effective date of the new standard won't have to be restated, even if they start after the date of initial application; initial direct costs are excluded during the same period; and preparers may use hindsight to set up the leases.
Lessor transition
  • Capital leases other than leveraged leases can be carried over with no adjustments.
  • Leveraged lease accounting is eliminated. Such leases will have to be restated.
  • Current operating leases will have a receivable and residual set up using the present value of the rents and expected residual value at date of initial application, the interest rate being the rate charged in the lease as of lease inception; the underlying asset is derecognized. Lessors also have the option of full retrospective application.
Lessor receivables held for sale
  • A proposal to report receivables held for sale at fair value was rejected. While this would superficially be consistent with IFRS 9 and the FASB's Accounting for Financial Instruments project, it was felt that it added complexity, was inconsistent with the rest of the leasing standard, offered opportunities for structuring, and would add more variability in profit and loss. Instead, any gain or loss would be recognized when a sale of the receivable is completed.
Variable payments for lessors
  • If the rate a lessor charges a lessee assumes "reasonably assured" variable lease payments will be made, the residual asset (which by default contains the value of those payments, since the value is not in the receivable) will be adjusted by recognizing an adjustment to the residual. The adjustment is the variable lease payment divided by the fair value of the underlying asset, times its carrying amount.
Lessor receivable and residual
  • Investment property is excluded from the lease standard scope. This keeps those properties under IAS 40 for companies using IFRS. The FASB is working on a project to create the same standard for the U.S. (which presumably will be complete by the time the lease standard takes effect).
  • Profit on the residual will not be recognized until the asset is sold or re-leased.
  • The residual is initially booked at the present value of the residual. The value is accreted, with interest income recognized for the accretion, using the same interest rate as for the receivable.

Friday, October 21, 2011

Exposure Draft delayed to 2012

The FASB & IASB have updated their project schedules to indicate that the revised exposure draft (RED) will be released in Q1 2012. That's another delay of three months from what was expected when they announced in July that a RED would be released. The Equipment Lease and Financing Association is reporting that the comment period will be a full 120 days; there had been speculation that the comment period might be shorter the second time around. That means that the comment period won't end until near the end of Q2. With time for redeliberation, that suggests that the final standard won't be out until late in 2012.

It's yet the latest delay in an oft-delayed project. When originally announced back in 2006, the boards expected to be done in 2009. The latest delay could affect the implementation date; speculation recently has focused on 2015 as the implementation date, but given the planned requirement to restate the prior two years of comparable financials, that means there could be just weeks between the release of the standard and when (1/1/2013) leases will effectively need to be reported under it. During those two years until actual implementation, bookings will be done under current standards, but companies will need to make sure they keep complete information on their leases to enable recreating their accounting under the new methodology. Of course, with the active consideration of full retrospective accounting (though probably not to be required, just optional), it would be good to be keeping information right now on any leases that you expect to remain active into 2015. (It is expected that leases that expire before implementation won't need to be recalculated.)

The boards held a lengthy meeting this week on leases, but I don't have time to review the 5 hours of recordings, and my normal sources haven't yet posted summaries of the events.