Counting Leases Before They Hatch
A proposed accounting change will dramatically affect how landlords and tenants treat leases.
by Tom Muller
The accounting profession is currently evaluating a proposed new standard that promises to fundamentally change the ways landlords and tenants account for — and negotiate — leases.Under review is a proposed rewriting of the Financial Standards Accounting Board’s Accounting Standards Codification Topic 840, which before 2009 was known as FAS 13. This topic, "Accounting for Leases," is one of many standards that together comprise generally accepted accounting principles, or GAAP, in the United States.
The draft standard has drawn much heated debate for its potential to fundamentally change the leasing market, likely shortening lease terms and dramatically reducing the apparent value of properties with traditionally long lease terms, such as office buildings.
What Is Being Proposed?
According to FASB, the proposed new rule responds to dissatisfaction with the way that operating leases are disclosed on companies’ financial statements. Current financial standards draw a distinction between operating leases — the standard landlord/tenant relationship — and capital leases, typically used as an alternative form of financing. Current rules effectively ignore the documented structure of capital leases, instead treating the leased property as if it were owned by the tenant and financed by the landlord.
FASB notes that many companies have carefully structured their leases in view of the current rules to achieve characterization as either operating leases or capital leases, resulting in strikingly different effects on the company’s financial statements. The proposed rules to a large degree would prevent this by treating all leases with a term over one year as capital leases.
The proposed new standard treats the execution of a lease as the conveyance to the tenant of an asset — the right to use the property — and the creation of a liability — the obligation to pay rent over the term. The standard creates one analysis for the inception of the transaction and a slightly different one for ongoing reporting. It also requires both landlord and tenant to adjust underlying assumptions about the future of the lease as facts that might affect those assumptions change.
Tenant Changes
For the tenant the new standard would require the following considerations.
* At the beginning of the lease, the tenant must recognize as a liability the present value of all lease payments it is obligated to make, taking into account any extension or termination options it is likely to exercise, and estimating any contingent rent or termination payments it expects to make. The discount rate to be used for the present value calculation is the interest rate the tenant would have to pay a lender for a comparable real estate secured loan.
* The tenant recognizes the right to use the property for the term of the lease as an asset, measured, at the beginning of the lease, at the present value of the lease payments, plus the “initial direct costs” it incurs in negotiating the lease, for example, broker’s commissions and legal fees.
* During the term of the lease, the tenant amortizes the right to use the property over the shorter of its remaining useful life or the term of the lease.
* During the term of the lease, the tenant must reflect any changes as they occur. For example, if, a few years into the lease, a tenant’s business changes so as to make it likely that it will pay more contingent rent over the term of the lease, its financial statements must immediately reflect that change. Or, if a change in the tenant’s business makes it more likely that it will not exercise an extension option it previously expected to exercise, it may be required to adjust its financial statements to reflect that.
CFO Best Practice Sponsor:
Cambridge Consulting Group was formed more than 10 years ago to help large organizations reduce their costs by eliminating their leasing obligations for excess commercial real estate space. Founded by Dave Worrell, a former Corporate/Facility Director, Cambridge Consulting Group offers companies a better option than subleasing office space they no longer need or use. Using a newer financial strategy- Negotiated Lease Buyouts, Cambridge Consulting has saved Fortune 500 companies millions of dollars in commercial lease obligations. For more information please visit their website- www.ccgiweb.com
to read the full article please visit www.cire.com
Wednesday, December 29, 2010
Friday, December 17, 2010
CFOs Need to be Problem Solvers
Interesting article from CFO magazine about role of CFO as leader and problem solver
By David McCann
For finance chiefs with designs on the chief executive's chair, serving a stint in operations is often a prerequisite. But the lack of an important quality may be blocking many CFOs from successfully doing so, in the view of one former CFO-turned-CEO.
That quality is empathy for customers, and for the employees who serve them, says Cary McMillan, a onetime Sara Lee CFO who now runs tax-advisory firm True Partners. While it's become a cliché for CEOs to say they want a finance leader who can act as a business partner, failing to understand customer behavior and wishes may be a significant handicap in performing that role, he says.
Finance chiefs "tend to be supersmart people who don't always help solve problems," asserts McMillan, who left his CFO post in 2002 to become CEO of Sara Lee's then-huge apparel business. And when it comes to being a business partner, he adds, problem solving is "a million times more valuable than being technically correct on every finance issue."
Putting the highest priority on always being right from a technical standpoint is a habit that's difficult for CFOs to kick, McMillan acknowledges, since that's how they're trained. But in the end, he says, that is a "me" mind-set, whereas a "we" mentality is what pushes companies forward.
McMillan developed an appreciation for the "we" approach during 19 years at Arthur Andersen, where he rose to become head of the firm's audit practice and managing partner of the Chicago headquarters office. "I was one of the few line partners who were actually interested in how the firm was run," he recalls. "Almost everybody else — because this is how we trained them — was interested only in their own activities. I got involved in management by throwing myself in there."
Cary McMillan, True Partners
That facility for stepping out of the box clinched Sara Lee's decision to offer him the CFO job, says McMillan. "They could see me as more than just a client-service provider; as somebody who was interested in working on the entire entity, not just one part of it."
It was a heady role for a career audit-firm partner, with Sara Lee sometimes mentioned in the same breath as such finance-professional incubators as PepsiCo, General Electric, Kraft, and Johnson & Johnson. The conglomerate's highly decentralized structure put finance executives in the spotlight, says McMillan, with sales, marketing, purchasing, and supply-chain functions all pushed out to the many business units.
Indeed, he took the job worrying whether he was qualified to be CFO. He had never had to deal with treasury matters or investor relations, for example. "I thought I only had about half the experience I really needed," he says. "But I found that the half I had, in accounting and internal controls, was helpful with the other side."
He earned some treasury chops by helping to arrange hedges on the company's receivables with Kmart in advance of the retail giant's bankruptcy. Although Sara Lee Branded Apparel was one of Kmart's largest creditors, "we didn't lose a penny," says McMillan. And the passage of Regulation FD during his first year on the job turned out to be blessedly timed, because everyone was in the same boat grappling with the transition to a new mandate for disclosure to investors.
to read full article please visit http://www.cfo.com/article.cfm/14544598/c_14545252
By David McCann
For finance chiefs with designs on the chief executive's chair, serving a stint in operations is often a prerequisite. But the lack of an important quality may be blocking many CFOs from successfully doing so, in the view of one former CFO-turned-CEO.
That quality is empathy for customers, and for the employees who serve them, says Cary McMillan, a onetime Sara Lee CFO who now runs tax-advisory firm True Partners. While it's become a cliché for CEOs to say they want a finance leader who can act as a business partner, failing to understand customer behavior and wishes may be a significant handicap in performing that role, he says.
Finance chiefs "tend to be supersmart people who don't always help solve problems," asserts McMillan, who left his CFO post in 2002 to become CEO of Sara Lee's then-huge apparel business. And when it comes to being a business partner, he adds, problem solving is "a million times more valuable than being technically correct on every finance issue."
Putting the highest priority on always being right from a technical standpoint is a habit that's difficult for CFOs to kick, McMillan acknowledges, since that's how they're trained. But in the end, he says, that is a "me" mind-set, whereas a "we" mentality is what pushes companies forward.
McMillan developed an appreciation for the "we" approach during 19 years at Arthur Andersen, where he rose to become head of the firm's audit practice and managing partner of the Chicago headquarters office. "I was one of the few line partners who were actually interested in how the firm was run," he recalls. "Almost everybody else — because this is how we trained them — was interested only in their own activities. I got involved in management by throwing myself in there."
Cary McMillan, True Partners
That facility for stepping out of the box clinched Sara Lee's decision to offer him the CFO job, says McMillan. "They could see me as more than just a client-service provider; as somebody who was interested in working on the entire entity, not just one part of it."
It was a heady role for a career audit-firm partner, with Sara Lee sometimes mentioned in the same breath as such finance-professional incubators as PepsiCo, General Electric, Kraft, and Johnson & Johnson. The conglomerate's highly decentralized structure put finance executives in the spotlight, says McMillan, with sales, marketing, purchasing, and supply-chain functions all pushed out to the many business units.
Indeed, he took the job worrying whether he was qualified to be CFO. He had never had to deal with treasury matters or investor relations, for example. "I thought I only had about half the experience I really needed," he says. "But I found that the half I had, in accounting and internal controls, was helpful with the other side."
He earned some treasury chops by helping to arrange hedges on the company's receivables with Kmart in advance of the retail giant's bankruptcy. Although Sara Lee Branded Apparel was one of Kmart's largest creditors, "we didn't lose a penny," says McMillan. And the passage of Regulation FD during his first year on the job turned out to be blessedly timed, because everyone was in the same boat grappling with the transition to a new mandate for disclosure to investors.
to read full article please visit http://www.cfo.com/article.cfm/14544598/c_14545252
Monday, December 13, 2010
Software Programs Help Companies Prepare for New Lease Accounting Changes
Originally published in National Real Estate Investor
By James Duport and Ken Brown
Big changes are on the way for companies that are significant holders of real estate. It’s hard to say exactly when the much talked about and anticipated FASB lease accounting changes will go into effect, but companies with real estate holdings in particular need to be prepared for the significant impact these new rules will have on lease commitments.
Change is never easy, but the transition doesn’t have to be traumatic. On the contrary, required adherence to these new FASB rules, which are being put in place to enforce transparency and full disclosure, actually has a silver lining. It presents the opportunity for companies to update software and technology, which may be outdated anyway, in order to manage their real estate holdings and move to a faster, broader, more accommodating and flexible system.
Under the new proposed law, lease commitments must be on the balance sheet from day one, which is why older technology will no longer do the job. But, before we address effective ways for companies to achieve leasing compliance, it is important to first understand why the laws of lease accounting are changing.
Current lease accounting guidelines were adopted 30 years ago and are outdated by today’s business standards. The biggest difference between the old and new rules pertains to off-balance sheet accounting. The proposed new rules will bring all assets currently under lease onto the balance sheet and take into account international real estate portfolios, too. The new rules will also include a single worldwide leasing standard, which is important as real estate companies continue to go global.
For most companies, and especially those with large, international real estate portfolios, the sheer thought of overhauling the leasing structure of all their properties is overwhelming. But, thankfully, the implementation of advanced lease administration technology can successfully support a company through this process.
It will be difficult, if not impossible, to become compliant with the new lease accounting laws without some level of lease administration software support. When considering which software to implement, be sure the product is Web-based and that it provides a system of record for all of the leased real estate assets.
That includes leases, subleases, purchase agreements, franchise agreements, equipment leases and more. Be sure the software is completely transparent with regard to location information, critical dates and expenses, and that it integrates workflow.
It should have the ability to create pro-forma leases and integrate MS Excel financial models. It should also be able to handle complex reporting and compare multiple lease financials to support decision-making, and standardize all leases in a portfolio to streamline the cumbersome process.
It’s a lot to take into consideration, but there are companies that have been anticipating these changes and updated their technology with the new FASB rules in mind. The right technology should make life easier.
You can audit your current lease administration system and take stock of all of the capabilities you need and would like in an updated product. Then, do the research to locate the technology that will work best with your real estate and lease commitments.
It’s no secret that the new FASB rules promise to radically transform lease accounting and if you are a significant user of real estate, they will radically transform the way you do business, too. But there are lease administration software programs on the market that will make it easier to deal with many of the initial challenges that accompany such a transition.
Jim Duport is the creator and lead developer of Lucernex Technologies Lx LseMod products and the Lucernex financial engine. He created v15, set for release later in the fourth quarter, to support potential FASB changes. Lx LseMod is a corporate lease analysis tool used by companies including GE, MetLife, Robert Half, Cigna, National Semiconductor, United Technologies, Yahoo and Intuit.
Ken Brown designed mass market software in the 1980s and designed SLIM lease administration software. He is executive vice president and CIO of Lucernex and head of Lucernex product development.
By James Duport and Ken Brown
Big changes are on the way for companies that are significant holders of real estate. It’s hard to say exactly when the much talked about and anticipated FASB lease accounting changes will go into effect, but companies with real estate holdings in particular need to be prepared for the significant impact these new rules will have on lease commitments.
Change is never easy, but the transition doesn’t have to be traumatic. On the contrary, required adherence to these new FASB rules, which are being put in place to enforce transparency and full disclosure, actually has a silver lining. It presents the opportunity for companies to update software and technology, which may be outdated anyway, in order to manage their real estate holdings and move to a faster, broader, more accommodating and flexible system.
Under the new proposed law, lease commitments must be on the balance sheet from day one, which is why older technology will no longer do the job. But, before we address effective ways for companies to achieve leasing compliance, it is important to first understand why the laws of lease accounting are changing.
Current lease accounting guidelines were adopted 30 years ago and are outdated by today’s business standards. The biggest difference between the old and new rules pertains to off-balance sheet accounting. The proposed new rules will bring all assets currently under lease onto the balance sheet and take into account international real estate portfolios, too. The new rules will also include a single worldwide leasing standard, which is important as real estate companies continue to go global.
For most companies, and especially those with large, international real estate portfolios, the sheer thought of overhauling the leasing structure of all their properties is overwhelming. But, thankfully, the implementation of advanced lease administration technology can successfully support a company through this process.
It will be difficult, if not impossible, to become compliant with the new lease accounting laws without some level of lease administration software support. When considering which software to implement, be sure the product is Web-based and that it provides a system of record for all of the leased real estate assets.
That includes leases, subleases, purchase agreements, franchise agreements, equipment leases and more. Be sure the software is completely transparent with regard to location information, critical dates and expenses, and that it integrates workflow.
It should have the ability to create pro-forma leases and integrate MS Excel financial models. It should also be able to handle complex reporting and compare multiple lease financials to support decision-making, and standardize all leases in a portfolio to streamline the cumbersome process.
It’s a lot to take into consideration, but there are companies that have been anticipating these changes and updated their technology with the new FASB rules in mind. The right technology should make life easier.
You can audit your current lease administration system and take stock of all of the capabilities you need and would like in an updated product. Then, do the research to locate the technology that will work best with your real estate and lease commitments.
It’s no secret that the new FASB rules promise to radically transform lease accounting and if you are a significant user of real estate, they will radically transform the way you do business, too. But there are lease administration software programs on the market that will make it easier to deal with many of the initial challenges that accompany such a transition.
Jim Duport is the creator and lead developer of Lucernex Technologies Lx LseMod products and the Lucernex financial engine. He created v15, set for release later in the fourth quarter, to support potential FASB changes. Lx LseMod is a corporate lease analysis tool used by companies including GE, MetLife, Robert Half, Cigna, National Semiconductor, United Technologies, Yahoo and Intuit.
Ken Brown designed mass market software in the 1980s and designed SLIM lease administration software. He is executive vice president and CIO of Lucernex and head of Lucernex product development.
CFO Magazine Updates Lease Accounting Changes to Come
With the December 15th deadline for comments on the lease accounting changes fast approaching many commercial real estate owners and tenants are wondering how the changes will impact them.Many would just as soon see the lease accounting rules stay the way they are. But it is clear that the way companies account for real estate leases on their balance sheets is headed for big changes. The experts agree on one thing- the time to prepare for these changes is in 2011 or sooner!
CFO magazine recently published an interesting article on the impact the lease accounting changes will have on commercial real estate buy vs lease decisions, the length of leases, renewal options and the end of net leases. An excerpt of the article is below:
By Marie Leone
CFO Magazine
Accounting-standards setters are under fire, again. The new leasing standard, proposed jointly by the Financial Accounting Standards Board and the International Accounting Standards Board, has been characterized as naïve, lacking value, and in need of serious reevaluation. The outcry comes not from a handful of opponents but from companies on both sides of common lease contracts — those that rent office space, copiers, or airplanes and those that own the assets.
At the center of the maelstrom is the "right-to-use" asset concept, the accounting mechanism that places leased assets and liabilities on the balance sheets of lessees, as if they owned the assets. That would essentially eliminate operating leases. Credit Suisse estimates that, within the S&P 500 alone, the volume of assets returning to balance sheets could surpass $550 billion.
At those levels, asset ratios could be thrown out of whack, potentially sending debt covenants — if not adjusted — into default, says Ross Prindle, a managing director with Duff & Phelps, while also requiring banks to increase their regulatory capital and wreaking havoc on compensation plans tied to the asset measures.In addition, the proposed standard (called Topic 840 by FASB) requires lessors to recognize assets and liabilities in a new way. A lessor must recognize an asset as representing its right to receive lease payments and, when appropriate, record a liability as representing the contractual right of others to use their equipment or real estate.
Then, based on how much residual value the lessor estimates it will retain at the end of the lease, it must also use one of two accounting approaches laid out in the draft: either the performance obligation or the derecognition model. If the rules seem complicated, that's because they are, says D.J. Gannon, a deputy managing partner with Deloitte. However, he says the proposed changes are well intentioned: rulemakers want to curb abusive leasing practices by companies that structure around the 90% ownership test that currently determines whether a contract is an operating lease and can therefore be removed from their balance sheets.
Be that as it may, in the year-plus since FASB issued its first discussion paper on the topic, more than 300 comment letters have been submitted, most indicating that stakeholders are not convinced that the intended benefits will be worth the additional cost and effort.The comment period is open until December 15, and two days later FASB and the IASB will hold the first of four new "outreach" meetings to get a better handle on what worries constituents. The boards plan to release a final rule during the first half of 2011.
Lessor Has More
What's interesting is that most critics are less concerned about the concept of capitalizing all leases than with how FASB and the IASB propose to treat the leases after bringing them back on balance sheets.
"The board is naïve if they don't think the same kind of structuring will occur under these rules as exists with the bright-line test," asserts Shawn Halladay, a principal at The Alta Group, a leasing-industry consultancy. Halladay says that lessees have only to structure leases for shorter terms to push more of the asset value from their balance sheets. That's because shorter-term leases require the lessor to retain a larger portion of the asset's residual value.
Lessor accounting gets more complicated if the company retains a "significant" amount of the asset's risk or benefit. At that point, a lessor is required to use the performance obligation approach, which forces the company to carry both the asset and the total lease payment receivable (at the receivable's present value) on its balance sheet, as well as a performance obligation liability. In contrast, current capital lease rules require the lessor to carry a lease payment receivable on its balance sheet, but not the underlying asset.
The other accounting model available to lessors is the derecognition approach, which is used when the lessor retains a low residual value on the asset. The impact of the two-method treatment is sure to create "a greater divergence in practice among lessors," says Michael Fleming, also a principal at The Alta Group.
Lessors that hold real estate for investment — most notably in real estate investment trusts — may get a chance to avoid leasing rules completely, says Mindy Berman, managing director at Jones Lang Lasalle, a real estate services firm. Soon FASB will issue a proposal that requires real estate investment holdings to be measured at fair value, testing periodically for impairment, instead of following lessor accounting rules.
to read the full article please visit www.cfo.com
CFO magazine recently published an interesting article on the impact the lease accounting changes will have on commercial real estate buy vs lease decisions, the length of leases, renewal options and the end of net leases. An excerpt of the article is below:
By Marie Leone
CFO Magazine
Accounting-standards setters are under fire, again. The new leasing standard, proposed jointly by the Financial Accounting Standards Board and the International Accounting Standards Board, has been characterized as naïve, lacking value, and in need of serious reevaluation. The outcry comes not from a handful of opponents but from companies on both sides of common lease contracts — those that rent office space, copiers, or airplanes and those that own the assets.
At the center of the maelstrom is the "right-to-use" asset concept, the accounting mechanism that places leased assets and liabilities on the balance sheets of lessees, as if they owned the assets. That would essentially eliminate operating leases. Credit Suisse estimates that, within the S&P 500 alone, the volume of assets returning to balance sheets could surpass $550 billion.
At those levels, asset ratios could be thrown out of whack, potentially sending debt covenants — if not adjusted — into default, says Ross Prindle, a managing director with Duff & Phelps, while also requiring banks to increase their regulatory capital and wreaking havoc on compensation plans tied to the asset measures.In addition, the proposed standard (called Topic 840 by FASB) requires lessors to recognize assets and liabilities in a new way. A lessor must recognize an asset as representing its right to receive lease payments and, when appropriate, record a liability as representing the contractual right of others to use their equipment or real estate.
Then, based on how much residual value the lessor estimates it will retain at the end of the lease, it must also use one of two accounting approaches laid out in the draft: either the performance obligation or the derecognition model. If the rules seem complicated, that's because they are, says D.J. Gannon, a deputy managing partner with Deloitte. However, he says the proposed changes are well intentioned: rulemakers want to curb abusive leasing practices by companies that structure around the 90% ownership test that currently determines whether a contract is an operating lease and can therefore be removed from their balance sheets.
Be that as it may, in the year-plus since FASB issued its first discussion paper on the topic, more than 300 comment letters have been submitted, most indicating that stakeholders are not convinced that the intended benefits will be worth the additional cost and effort.The comment period is open until December 15, and two days later FASB and the IASB will hold the first of four new "outreach" meetings to get a better handle on what worries constituents. The boards plan to release a final rule during the first half of 2011.
Lessor Has More
What's interesting is that most critics are less concerned about the concept of capitalizing all leases than with how FASB and the IASB propose to treat the leases after bringing them back on balance sheets.
"The board is naïve if they don't think the same kind of structuring will occur under these rules as exists with the bright-line test," asserts Shawn Halladay, a principal at The Alta Group, a leasing-industry consultancy. Halladay says that lessees have only to structure leases for shorter terms to push more of the asset value from their balance sheets. That's because shorter-term leases require the lessor to retain a larger portion of the asset's residual value.
Lessor accounting gets more complicated if the company retains a "significant" amount of the asset's risk or benefit. At that point, a lessor is required to use the performance obligation approach, which forces the company to carry both the asset and the total lease payment receivable (at the receivable's present value) on its balance sheet, as well as a performance obligation liability. In contrast, current capital lease rules require the lessor to carry a lease payment receivable on its balance sheet, but not the underlying asset.
The other accounting model available to lessors is the derecognition approach, which is used when the lessor retains a low residual value on the asset. The impact of the two-method treatment is sure to create "a greater divergence in practice among lessors," says Michael Fleming, also a principal at The Alta Group.
Lessors that hold real estate for investment — most notably in real estate investment trusts — may get a chance to avoid leasing rules completely, says Mindy Berman, managing director at Jones Lang Lasalle, a real estate services firm. Soon FASB will issue a proposal that requires real estate investment holdings to be measured at fair value, testing periodically for impairment, instead of following lessor accounting rules.
to read the full article please visit www.cfo.com
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