New lease accounting rules
present a systems challenge for lessors and lesees. Nic Evans
writes.
Go deeper with GlobalData
Debate has raged on both sides of
the Atlantic throughout the leasing conference season about the
International Accounting Standards Board (IASB) proposals for lease
accounting.
The exposure draft (ED/2010/09) was
the subject of a public meeting in London on 5 November, hosted by
the FLA and the UK Accounting Standards Board.
Whatever happens as a result of
responses to ED/2010/09, significant change is certain.
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By GlobalData“Lessee capitalisation… is set in
stone,” IASB member Pat Finnegan says.
“The financial crisis has really
dictated that accounting standard setters take a very serious look
at current accounting models and not proceed on the glacial path
that they have been following for many years.”
How should the industry manage such
change?
Be prepared
Nick Pattenden, MD of specialist
finance pricing supplier Field Solutions, says: “The thing to do
now is to get back to the IASB and say, ‘This will be the effect on
my business and this will be the cost’. Do the benefits of the
proposals outweigh the costs to us and to our customers?”
Having submitted comments,
companies should start to plan.
“Time spent planning is never
wasted. If you plan for the worst, it won’t be wasted if things
don’t turn out so bad. You will need system resources and
adequately trained people,” Pattenden says.
A lot of preparatory work can be
started now.
“Finance companies will need to
review the impact to the business from A to Z and then assess the
impact to their systems,” says Ian Charik, Cassiopae asset finance
director.
Implementation can be scheduled as
soon as the timescale for the new standard is published. Management
should avoid other systems-related work, such as mergers and
acquisitions, during this time.
Impact on sales
behaviour
The complexity of
lessee capitalisation may put off potential customers from leasing.
Equipment funders are already hearing from large lessees they will
stop leasing for non-core assets.
At the London meeting, Mark Venus,
BNP Paribas accounting and reporting and chair of LeaseEurope
accounting committee, said: “A purchasing manager whose job today
is to rent photocopiers will need to be trained in law and
accountancy to be able to analyse the contracts for each
photocopier, and to provide estimates back to head office of likely
outcomes for each lease.”
Funders may, as part of the sales
process, need to provide additional information and illustrations,
with independent verification, to help lessees. Treasurers and CFOs
may need training about the benefits of leasing.
ED/2010/09 fails to distinguish
between lessees’ core assets and fungible assets, like copiers and
cars.
“In these areas we will see a move
toward managed services, and even to contract rentals where, rather
than lease specific vehicles, users are provided with the service
of a car averaging, say, 18 months old,” Pattenden says.
As the new standards change the
timing of funders’ profits from the lease, will this change methods
of pricing?
Pattenden claims that in smaller
ticket deals sales will still be driven by money over rate of
return.
“Sales people won’t keep in mind
accounting profit. But there will be a less direct connection where
business development will target sales of particular products,” he
adds.
David Maxwell, director of Classic
Technology, says: “While the accounting standards shouldn’t be
driving commercial decisions, funders are going to want to see year
on year profits.
“And while the IASB have tried to
do away with structuring, this will continue – just in new areas.
For bank regulated funders and where there are any tax benefits the
pricing will also change.”
Tipping point
ED/2010/09 has a clear impact on
lessors’ administration and accounting systems.
FLA chair of asset finance George
Lynn says: “To demonstrate the level of complexity we reckon that
there are at least 75 steps that you have to go through to get the
information that is required for the new methods.
“To put that in context, there are
10 steps required for a current operating lease, and about 30 steps
for a finance lease.”
Cassiopae’s Charik adds: “A lot of
systems, on both sides of the pond, have the accounting treatment
hard wired – even to the extent that lists of products can’t be
changed.”
Joe Franco of IDS sees a similar
impact in the US.
He says: “The impact of the changes
was clearly demonstrated at our recent ELFA National Conference:
attendance at the sessions discussing the lease accounting changes
was high. And you are also right that most of the systems are hard
wired.”
CHP Consulting senior manager Nick
Pattison says: “A significant number of companies will have to look
long and hard at their systems. This will be the tipping point for
a number of lessors, particularly those who have keeping in-house
systems going over the years.
“It will be a significant
investment to make the changes needed to in-house systems.”
Lessors who already have modern,
highly configurable, systems will have a significant advantage.
“Any changes that do have to be
made to our software will have a lot less impact,” Pattison
says.
“It will be keyhole surgery rather
than an open-heart operation. This will save significant time on
implementation and re-testing.
Charik says: “Any software changes
that are needed will be provided under our support agreements at no
additional cost to our customers. We give the guarantee of
compliance in each country where our software is operating.”
Pattison believes that making the
software changes is not the expensive part, and that the bigger
project will be to apply the new lease classifications across the
current portfolio.
“Performance obligation,
derecognition or, they may no longer be classified as leases, but
rather instalment purchase or service contracts,” he says.
“There are a number of areas where
discretional decisions have to be made. A big ticket lessor can
look at each lease but the smaller ticket business will need to
apply rules based on contract data.
“CHP’s ALFA has the business rules
engine to automate the decision and it stores contract information
at the most detailed level, enabling it to be used as the basis for
the classification.”
Multi-GAAP
White Clarke Group chairman Ed
White says: “CALMS has been designed to have multiple accounting
methods, so you can see the impact of the new methods alongside the
old operating and finance leases.
“A rules-based system allows you to
incorporate processes to make consistent judgements needed for the
new standards. It will be a lot more work for lessors without this,
which will significantly add to their costs.”
Charik says: “Multi-GAAP allows
parallel running, with the old treatment running alongside the new
methods. Cassiopae allows multiple strings, but systems with just
one set of books, or even dual accounting, will struggle.”
Pattison says: “In countries where
the take up of the new methods are different you can keep local
GAAP, while also using IAS when the parent chooses to adopt
it.”
Even companies using compliant
packages will face problems if they are running on older versions
of software. They may be tied to a particular version of software
because of customisations, or they may have held off upgrading
because of the effort and cost involved.
Interfaces will give further
challenges. The feed of information on new business coming from
customer relationship management and point of sales systems will
need to be modified.
An interface inevitably involves
changes to two systems, so this can considerably add to the
complexity and timescales for change.
Although a lease administration
system may be fully configurable for new financial products, the
front end systems will be more constrained. Few accountants like to
entrust lease classification to their sales force.
Lessors and major lessees will at
an early stage need to model the impact of the accounting treatment
on their current portfolios of leases.
Pattenden says: “A lot of people
will look to Excel to do this job, but this is fraught with
problems. We have software that will manage portfolios, but it’s
not just a case of plugging it into your database.
“Data acquisition is the difficult
part. No two package software installations are the same. It is a
consulting exercise so everyone understands how the data is being
used and the assumptions that are made.”
While transitional arrangements for
moving to the new standard are still to be agreed, CHP claims its
ALFA has another advantage.
“We can make mid-life changes to
lease income without the need to terminate or rebook the lease,”
says Pattison
“This also has an effective date
which allows us to make the changes retrospectively, or just going
forward.”
“In countries where the take up of
the new methods are different you can keep local GAAP, while also
using IAS when the parent chooses to adopt it.”
What will be the consequences for
leasing companies and their customers if the deadlines are not
met?
Pattenden says: “Failure to meet
the deadlines would be disastrous. It’s a regulatory issue that you
can account for your full business, current and future.”
Nic Evans is an independent
consultant and interim manager for commercial finance technology
and business agility, and he is an affiliate at Invigors LLP. Nic
may be contacted by email nic@nicevans.eu through LinkedIn
http://uk.linkedin.com/in/nicevans
