How to manage your fleet in crisis mode
How to manage your fleet in crisis mode
IASB Content & Update
Pieter Waegenaer – Athlon car lease
Denis Férault - Arval
Reminder: Today’s accounting systems & standards of reporting
National “National” GAAP (US GAAP, French GAAP, Dutch GAAP) “General Accepted Accounting Principals ”: Interpretations and guidance determined by National Accounting Standards Board, including local rules for taxes.
International International Financial Reporting Standards (IFRS) : International rules on how to determine external annual reports.
IFRS & US GAAP get more and more similar, and the European Commission (via EFRAG) also want companies listed on Stock Exchange in Europe to adopt IFRS (Convergence project)
The Case for Change
• Consistency: Analysts want to find in the Balance sheet all the assets involved in the business, whatever their funding modality may be, to avoid analysis and adjustments made on limited / inconsistent assumptions
• Significance : leasing funds 1/3 of investments
• Transparency: Operating leasing is accused of hiding assets
– SEC : $1.25 trillion (undiscounted) non cancellable operating leases not on balance sheet in the US (however approx. 80% of amount is real estate leasing)
– The airline anomaly (however 70% of aircraft finance is now in finance lease)
– Many deals are effectively motivated by window dressing
• The “Risk and Reward” criterion is criticised
IASB/FASB: “Finance/Operating leases are similar products and should be
accounted for accordingly”
Lease reform, the rationales
IAS17 reform inital target • To dispose of a single accounting
treatment for ALL types of leases
– whether Financial Lease or Operating Lease (=> no “brightline”)
– for Lessees as well as Lessors
– recognized by both IASB (International Accounting Standards Board ) and FASB (US Financial Accounting Standards Board)
• With balance sheet recognition for OL Lessees : portion of the leased asset + corresponding liability
Resulting initial issues
• Drawing a new line between
– lease and purchase transactions
– lease vs service contracts
• Ensuring a consistency between Lessee and Lessor accounting
Lease accounting: how it works today
Balance sheet Initial YR 1 YR 2 YR 3
Equipment 0 0 0 0
Debt 0 0 0 0
P&L
Rent expense -1 326 -1 326 -1 326
Depreciation - 0 0 0
Interest expense - 0 0 0
Net before tax - -1 326 -1 326 -1 326
TODAY
An example:
• Asset cost: 4 000€ • Lessor’s residual: 15% • Lessee’s incremental borrowing
rate: 8% • Term: 36 months • Monthly rental: 110.54€
Linear impact on result
No balance sheet entry
IFRS for Leasing
A lease contract is one in which the right to control the use of
an underlying asset is transferred , for a period of time, from
the lessor to the lessee, in exchange for consideration.
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Lessor Lessee RoU
IFRS for Leasing
Introducing a balance sheet entry: The Right of Use model
The Right of use model Operating and finance lease to be treated in the same way, on balance sheet
Right to use the leased item Obligation to make payments
ASSET LIABILITY
On the asset side, a new concept called Right of use, measured as the discounted* sum of leasing rentals is booked and depreciated on a straight line basis
On his liability side, the same initial amount would be booked to reflect the contracted debt, but it is depreciated in a financial way, like a bank loan
(*) Discount rate: rate charged by the Lessor or lessee’s incremental borrowing rate if not available
At every closing, the Lessee has to reassess these initial amounts according to • the updated lease term (e.g. in case of recontracting)
• the likeliness of exercising renewal options.
IFRS for Leasing
Leasing Assets or Subscribing Services?
• Prelimanery guidance to define a Lease: “A Lease relates to a specific asset (not necessarily a unique asset), where the lessee controls usage of the asset and where the asset is not insignificant in fulfilling the service”
• Devil is in the detail to determine if it is a lease or a service (executory contracts) for:
– Mobility Services (Cars + Train Card)
– Managed (Print) Services
– Cloud Computing
• Service(s) are not recorded on the Balance Sheet
• Future: Finance Leases (FL) and Other-Than-Finance Leases (OTFL) may NOT be the same as today’s FL and OL
What’s on, What’s Off?
• FL and OTFL with a term > 12 Months will be on Balance,
• Contracts with a Term < 12 months are excluded and are Off Balance sheet
• Full Service or “Bundled” Contracts: Only the financing part of the lease is of importance and has to be taken into account
Current project – impact for the OL Lessee
• Balance sheet
Current IAS17 Project
Current IAS17 Project
► P&L
OL lessee B/S impacts
► Asset : « right of use » (RoU)
► Liability : rental payment obligation
Remaining issues
► Asset classification of the RoU
► Resulting amortization schedule
OL lessee expense
► Interest on liabilities
► Linear amortization of RoU
Consequence
► Decreasing P&L expense over
time (vs constant today) – also
called “front loaded” expense
Customer impacts No impacts for customers not listed on stock market, not reporting under IASB
Next Steps
Continuing Negotiation
Where does the lease reform stand today ? ► “Front loaded” expense for OL Lessee due to linear amortization
of the RoU
• the longer the lease, the bigger the issue
• systematic at implementation
2010 ED : inacceptable !
► “Interest based amortization” (IBA) to re-create a constant OL
Lessee expense profile
• “workable” and “useful”
• but not consistent with property depreciation rules (cf. IAS 16)
Feb 2012 : new proposal
► For FL 2010 ED ?
► For OL IBA ?
• New brightline ?
Compromise? ► For IASB 2010 ED ?
► For FASB IBA ?
• No norm convergence !
FL accounting rules must be similar to that of outright
purchases (ie. straight-line asset amortization)
Inapplicable for FL
CL/ outreach
Staff report
IASB position
FASB concern
► No P&L symmetry with Lessees ?
► Or, if for symmetry, straight-line retained for all leases or OL
• revert to straight-line revenue for OL Lessors
• “scope-out” OL Lessors from R&R model (back to current IAS 17)
How about lessors ?
Measurement over lease term
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How to allocate the cost of a lease over the lease term?
Approach A
Typically straight-line ROU amortisation
Decreasing interest on liability
Decreasing total expense
Typically increasing ROU amortisation, reflecting time
value of money
Decreasing interest on liability
Typically straight-line total expense
Approach B
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Approach C
ROU amortisation profile depends on how much of leased asset consumed by
lessee
Decreasing interest on liability
Varying total expense
Total payments allocated evenly over the lease term.
Effectively no financing.
Always straight-line total expense
Approach D
Measurement over lease term How to allocate the cost of a lease over the lease term?
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Approach A Approach B
Method for amortising ROU asset
Same way as other assets Different from other assets
Effect on net income Decreasing total expense, especially for long-term leases
Straight-line total expense for many leases
What does the effect on net income represent?
Same as purchasing an asset and separately financing it
Different from purchasing an asset and separately financing it
Presentation of amortisation and interest
Presented separately Combined as “lease expense”
Comparison of approaches
Comparison of approaches continued
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Approach C Approach D
Method for amortising ROU asset
Different from other assets Different from other assets
Impact to net income Total expense pattern depends on the lease • The higher the consumption, the
steeper the decline in expense • The lower the consumption, the more
straight-line the expense
Straight-line total expense for all leases
What does the effect on net income represent?
Same as purchasing the underlying asset and separately financing it
Different from purchasing an asset and separately financing it
Presentation of amortisation and interest
Presented separately Total payments allocated to lease expense evenly over the lease term
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0 1 2 3 4 5
1 2 3 4 5
Income statement
Approach A
0 1 2 3 4 5
ROU asset
Lease liability
1 2 3 4 5
Interest
Approach B
Balance sheet Balance sheet
Income statement
Comparison of approaches continued
0 1 2 3 4 5
20
Income statement
0 1 2 3 4 5
ROU asset
Lease liability
1 2 3 4 5
Lease …
Approach D
1 2 3 4 5
Approach C (equipment)
Balance sheet
0 1 2 3 4 5
Approach C (property)
1 2 3 4 5
Interest
Balance sheet Balance sheet
Income statement Income statement
Comparison of approaches continued
At best ... a slipping calendar
Last year
After the decision
to re-expose
Last expectations