Weary from accounting change, companies gear up for leases

With year-end reporting and revenue recognition implementation nearly complete, public companies are preparing for their next accounting freakout—this time over leases.

Recent polls suggest companies have a lot of work to do to get ready for the next big rule, Accounting Standards Codification 842 on leasing, which takes effect Jan. 1, 2019, for public companies. A KPMG survey found that only 15 percent of companies had completed their preparations, and not quite half had implementation activity under way. The rest were still assessing or hadn’t even started to prepare.

Another poll by software provider LeaseAccelerator said most companies were finding the work to adopt the new lease accounting rules to involve as much heavy lifting as they undertook to adopt the new revenue recognition standard. And now a new poll from Deloitte & Touche says only about 21 percent of companies are confident they can get the job done on time, says James Barker, a senior consultation partner at Deloitte.

Coming out of the year-end reporting season and revenue recognition implementations, companies are turning their attention back to the lease accounting standard, says Barker. “As they are refocusing, they’re realizing they’re very close to the mandatory adoption date and very concerned about system readiness,” he says.

Angela Newell, a national assurance partner at BDO USA, says the largest companies that are likely to see the biggest impact from the standard are much further along in their preparation. That includes retail companies or restaurant chains, for example, that have large lease portfolios and were less affected by the new revenue rules. “They had less to do to adopt the new revenue standard, so it gave them more flexibility and more bandwidth to start looking at the leasing standard,” she says.

In theory, the leasing standard should be easier to adopt than revenue recognition, Newell says, because the new lease accounting requirements are not as different from the historic rules as the new revenue recognition rule was. The big challenges with the leasing standard is simply gathering all the data companies need and then implementing the necessary systems to do the accounting.

Sheri Wyatt, a partner at PwC, says she sees companies falling into one of three major categories as it pertains to their readiness for the new standard. One group is fairly early in its implementation planning, perhaps dusting off project plans they developed last year but hadn’t yet put into motion.

A second group is evaluating and selecting software or systems vendors, and a third group is implementing new systems or software and is perhaps importing data from its lease inventory. “It’s really all over the board at this point,” says Wyatt. By mid-March, she was expecting to be “drowning” in lease accounting inquiries, but the pick-up has been a little slower than she envisioned.

“We’re telling our clients if they have serious concerns about their ability to adopt on time, they should be telling FASB and telling them why. FASB can only work with what they know.”
James Barker, Senior Consultation Partner, Deloitte

Wyatt also sees the pressure that’s developing on systems implementation issues, as vendor resources are tightening under the increased demand for help. “When you have a standard that affects essentially all companies, that means all companies are looking to get an accounting solution,” she says.Michael Keeler, CEO at LeaseAccelerator, says anecdotally he would estimate perhaps 15 percent to 20 percent of the largest companies have selected a vendor. Companies have some different options to consider in terms of how they choose to address the technological aspects of implementation, he says

Big 4 firms are developing “homegrown” transitional software that they are providing to clients as part of their services, says Keeler. Some solutions also are emerging from vendors that provide integrated workplace management systems, which have been used to manage real estate properties. “Some of those are actually pretty mature in terms of the lease accounting calculation engine,” but they only work for real estate leases, not equipment leases or for leases embedded in service contracts.

“Then you had other companies that started from scratch in 2015,” says Keeler. Often in tandem with enterprise resource planning platforms, accounting calculation engines are emerging that will facilitate the lease accounting requirements, he says, but those are the solutions that in many cases are not yet fully developed.

Keeler says the typical enterprise software adoption lifecycle is five to seven years, which is far less time than companies were given when the Financial Accounting Standards Board adopted the major new standards. The enactment of the Tax Cuts and Jobs Act at the end of 2017 further piled onto financial reporting workload, he says.

“What these accounting standards have done is narrow the bell curve,” says Keeler. “Instead of having five to seven years, you have a three-to-five year window, and we’re in year two. Companies just can’t get to the finish by the deadline. The marketplace is constrained for expertise and talent. There’s a certain mindshare limitation that all corporate controllerships face.”

Expected impacts of new lease accounting

The leasing model will likely require operational and system changes potentially impacting many areas in the organization, including accounting, finance, financial reporting, taxes, and technology among others.
Operational considerations include:
challenges in data collection and aggregation across multiple locations and technology platforms;
technology capabilities to store lease data and perform calculations, including calculations during the look-back period (comparative prior periods)
review of lease tax classification and other factors; any changes in classification require IRS consent
enhanced disclosure requirements
changes to financial ratios with potential impacts to debt covenants or other guarantees
impact of limited resources and ongoing business needs on timeline for adoption
transforming from paper documents to sustainable technology solutions
Source: Deloitte & Touche

Some companies already are looking for “plan B, or even plan C,” says Deloitte’s Barker. “Plan B and C could be less comprehensive systems, more temporary fixes as opposed to permanent solutions. Plan C could even be a manual approach to adoption—something that gets you one year of accounting and hopefully bridges you to something more permanent.”

Yet, regardless of any concerns about system readiness, some companies are still behind on collecting the data they need to put into any new accounting system, says Sean Torr, managing director with Deloitte Advisory. “One of the things companies are underestimating is the level of effort to abstract the data,” he says.

And it’s not just a matter of finding and reading lease contracts, Torr points out. Fair market values for leased assets, for example, along with discount rates used to perform lease accounting calculations, come from sources other than the lease contracts themselves. “It takes a high degree of planning and coordination to make sure the resources are sufficiently allocated,” he says.

Daryl Buck, national managing partner at Grant Thornton, says he sees plenty of companies turning their attention as quickly as their limited resources will allow to the lease implementation effort. “For companies that have the luxury of having different resources working on different projects, it’s perhaps not as difficult, but for many it’s been quite challenging,” he says.

Recognizing the challenges and hearing early calls for a deferral in the effective date, FASB recently indicated it will provide some significant transition relief, primarily by permitting companies to adopt the rules on a prospective, or go-forward basis. That means they can opt to leave historic periods in financial statements reflecting lease obligations in footnotes as they have historically, applying the new accounting only to remaining and new lease obligations in periods beginning Jan. 1, 2019, and going forward. The board also approved a practical expedient for land easements.

Although he’s a former member of FASB, Buck says he has no insight into whether the board will entertain any further calls for relief or deferral. “My guess is for some companies I’m sure more time would be helpful, but I don’t think it’s all that likely,” he says. “I think they’re trying to be helpful with what is already proposed, but my guess is personally I wouldn’t expect much more than that.”

That doesn’t mean companies can’t ask, says Barker. “We’re telling our clients if they have serious concerns about their ability to adopt on time, they should be telling FASB and telling them why,” he says. “FASB can only work with what they know.”