Consultant Julian Rose, former head of asset finance at the Finance & Leasing Association examines the fraught relationship between the IASB and the leasing industry
9½ Weeks starring Kim Basinger and Mickey Rourke wasn’t rated by the critics so it might seem odd to find a reference to this 1986 film about psychosexual stimulation here in Leasing Life.
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This article however isn’t about a fictional relationship lasting 9½ weeks but instead a real one lasting 9½ years. This is of course the relationship between the International Accounting Standards Board (IASB) and the leasing industry.
It all started when the IASB began its project to create a new lease accounting standard in May 2006. 9½ years later the IASB is expected to publish the final version of its new lease accounting standard in or around November.
The relationship between the IASB and the leasing industry is about to get quite intense, but let’s look first at what’s happened over the past nine years.
From the outset, the IASB’s plan was to put all leased property and equipment on lessees’ balance sheets. Off-balance sheet operating leases would be scrapped. To achieve this the IASB eventually selected a ‘Right of Use’ accounting model.
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By GlobalDataThe essence of the Right of Use model is this. If Business A has the ‘Right of Use’ of something owned by Business B, that’s equivalent to Business A owning that thing for the period it is using it.
It’s not very difficult to find flaws in the Right of Use argument.
If a firm leases 100 cars, or 100 copiers, these will be Right of Use assets on the firm’s balance sheet. However if that firm instead buys a fleet solution that happens to use 100 cars, or a copying solution that happens to use 100 copiers, then subject to various complicated details these won’t be Right of Use assets and they won’t be reported on the firm’s balance sheet.
The new standard that is supposed to improve comparability between similar transactions might therefore have quite the opposite effect, at least over time as the market responds to the changes.
The IASB is the dominant partner in this relationship. It believes it can do whatever it thinks is right, provided it follows its own ‘due process’.
So for the best part of the last nine years, the relationship between the leasing industry and the IASB has been a fraught, but mostly civil one. Discussions have often been along the following lines:
IASB: "We care so much about you, leasing industry. We always want to know what you are thinking. Talk to us, come and visit us. Just remember that investors are far more important than you are."
Leasing industry: "But we feel you haven’t really got to know and understand us. We’re not that complicated and you can trust us. Let’s spend some quality time together and we’re confident we can make this work."
Meanwhile the investors are watching from the side thinking:
Investors: "It’s so nice of the IASB to offer to help us. To be honest, we don’t really understand what they are saying. However leasing isn’t high up on our list of issues and if the IASB enjoys doing this stuff who are we to stop them? Besides we’d look a bit stupid if we said we weren’t in favour of greater transparency! As long as it can’t do any harm to our investments, let’s just say we support it."
There have been a few tricky moments. The IASB chairman accused the leasing industry of deliberately cooking the books. That really hurt.
However on the whole lessors haven’t lost too much sleep. It’s only accounting after all and the changes always seemed so distant. Even now they will only affect the largest companies in the first few years (although there could be big knock-on changes to how UK lease taxation rules work, impacting all businesses).
Now the final standard is expected around November. It’s likely to be a lot more complicated than the current standard for all leases, open to different interpretations, and leading to quite different accounting treatments for similar agreements. Just as lessees get to grips with how to crunch the numbers for their accounting statements, they could find themselves spending extra time and money preparing significantly more detailed notes to their accounts.
The greatest risk is that the regulatory burdens when leasing could become too high for some lessees. Businesses might decide to own rather than lease, or more seriously might just not invest in new equipment.
From here there’s only one place this relationship can go and that’s to counselling. The IASB’s new rules will have to be approved for use in Europe by the European Commission.
The EC’s advisory body, the European Financial Reporting Advisory Group will assess whether the changes are in the European public interest. It will consider evidence from the IASB as well as the leasing industry (and, indeed, anyone else who cares).
Where will the relationship end up?
9 ½ weeks ends with a stormy breakup but of course we’re all too businesslike to allow that to happen.
A parody of 9½ Weeks called 9½ Ninjas! was released in 1991. Somehow this lease accounting tale doesn’t seem to need a parody.
In 1997, a sequel – Another 9½ Weeks – starring Mickey Rourke and Angie Everhart was released. If the new lease accountingstandard is approved by the EC and implemented in Europe, a sequel to it seems inevitable as it becomes clear that the Right of Use model isn’t working.
Julian Rose is director of Asset Finance Policy and runs the Asset Finance 500 broker directory website (assetfinance500.uk)
