New accounting standards may bring vehicle leases on your balance sheet

on 14 November, 2017

Both the International Accounting Standards Board (IASB) and the Financial Standards Accounting Board (FASB) have recently issued new accounting standards related to lease assets.

For public companies following FASB standards, the effective date for implementation is for the fiscal year beginning on or after 15 December, 2018. For all other companies, the effective date of the FASB standard will be for the fiscal year beginning on or after 15 December, 2019. The IFRS standards for all companies are required to be effective starting in 1 January, 2019. For US companies, a prior period comparison is required, although this is not a requirement for companies that follow IASB standards. There are certain exemptions that may preclude these assets from consolidating onto your balance sheet.

These new accounting regulations will have a significant impact on companies that are leasing or expect to lease their vehicle fleet. While it seems there is plenty of time to implement this accounting change, the time to start preparing is now.

The new standards change how lease assets are accounted for and presented on the balance sheet and should not impact the decision in the “lease vs. purchase” debate.

Reason for the change

Both the IASB and the FASB have stated that the intent behind these revisions was to improve the transparency related to lease assets. In a statement released by the IASB, it was estimated that the change in lease accounting standard would result in an increase of over $3.3 trillion in total assets on the related balance sheet for companies that follow either standard.

While more astute investors have always adjusted the financial statements when analysing the impact of leased assets on a company’s financial strength, these changes provide for more consistent comparisons across companies. As such, we do not expect the investor’s assessment of the company’s performance to change; this is especially true for investors in the fixed rate market.

Areas of focus

When the standard becomes effective, an asset called a “Right of Use Asset” will be calculated and recorded on the company’s balance sheet along with a liability referred to as “Lease Liability”. To simplify, the Right of Use Asset is the net present value of the remaining lease payments. In order to do the calculation, the company needs to make a number of assumptions and these will need to be disclosed in the financial statement footnotes. The Lease Liability at inception will match the Right of Use Asset.

Full service lease products will make the accounting more complicated due to the presence of the services component in the lease payment. New guidance will require that the two components in the full service lease payments are accounted for distinctly

This accounting change may result in significant investments of time and resources to ensure that companies are ready to implement the requirements under this standard. Since the implementation time frame is quickly approaching, especially for US public companies, now is the time to start planning to ensure accounting compliance.

During this process, it will be critical for fleet managers to work closely with both their internal and external finance and accounting groups for guidance and interpretation to ensure a successful and timely implementation. Among the key things for your team to consider are:

  • Which standard applies to your company (IASB or FASB)
  • Which data points are required for the calculations under the applicable standard
  • What is the information you currently possess
  • What are the investments required to successfully implement the standard

Leasing – an important alternative

Companies decide to lease for a number of different reasons, all of which remain viable under the new accounting standards. Given the right circumstances, leasing will allow a company to improve cash flow with the potential to reap additional benefits. Leasing can allow companies to meet their fleet needs with newer vehicles, which results in additional cost savings related to maintenance and fuel efficiency.

As an example, NJ TRANSIT recently decided to begin leasing a percentage of its fleet of over 1,000 vehicles, which consists of light duty trucks, cars, and specialty railroad equipment. Though public transit agencies traditionally purchase these vehicles and use them beyond their estimated life, NJ Transit was faced with a dire need to replace its aging and dilapidated assets. As this coincided with a period of reduced budgetary funding, it decided to pass on the traditional approach and lease approximately 100 vehicles. Its decision was rewarded with a 10% reduction in maintenance costs year-over-year.

Leasing, in all its forms, is expected to remain a viable financing strategy with significant benefits for most companies. As the new standards take effect, proper reporting, compliance and other associated factors need to be considered in the decision making process.

Paul Azores is Vice President of Finance at ARI.

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