Alan Gregory
5 minutes length
Posted: 23rd November 2017

What Should CFOs & Financial Controllers Say About IFRS 16 In Their End Of Year Reports?

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Why You Need To Consider IFRS 16 In Your Annual Report

With an increasing amount of businesses using leasing as a means of accessing and acquiring assets they need in order to function, the leasing industry has grown massively in recent years.

It’s an upward trend which can be seen across various industries and sectors and has also been mirrored in people’s personal lives and spending habits. From car leasing to mobile phone contracts; leasing has quickly become the normal way to access the latest tech and products.

Back in the business world, however, leasing has arguably caused the financial performance of businesses to be misrepresented or to be far from transparent on balance sheets and in financial reports.

Historically, operating lease agreements have largely been reported off balance sheets, for example, which means that – particularly when the reliance on using leased items has grown – the historic snapshot view of a company (the balance sheet) isn’t a true representative of the state of a company.

However, this is all about to significantly change following the announcement of the new lease accounting standards, IFRS 16 and FASB ASC 842. The International Accounting Standards Board (IASB) and Financial Accounting Standards Board (FASB) have spent the past 10 years in consultation with each other and leading accounting industry heads to rewrite the rules when it comes to lease accounting.

The biggest change will be that operating leases will no longer be excluded from balance sheet accounting, but there is a raft of other changes under the new standards (IFRS 16) including redefining what constitutes a lease.

IFRS 16 means that you and your business will have to conduct a full and proper review and analysis of your lease portfolio and see what impact the standard changes will have on your reporting procedures and reported figures.

There’s also a requirement for businesses to begin reporting sooner rather than later, as January 2019 will see the reporting changes being implemented.

If you are yet to begin the process of consolidating and centralising all the data of your lease portfolio, then it is time to begin.

What Regulators And Stakeholders Will Be Expecting

Stakeholders will be first interested in what the financial impact will be on the business once IFRS 16 comes into effect. The hidden factor behind this point, however, which you must be sure not to neglect, is to also consider the cost and impact of becoming compliant in the first place.

Stakeholders will also require a full assessment of the lease portfolio to be completed, as well as projections of the next year(s) so that they can assess how the business will fare in light of the changes. It would be wise to also spend time trying to pinpoint potential savings and building these into your forecasts.

The business and its stakeholders will also want to form a long-term lease management strategy which is optimised to run under the new standards. This is vital due to the enormous worth of assets and liabilities which will be added to balance sheets and will impact financial ratios like EBITDAR, outstanding liabilities and operating cash flows.

To gather some sense of scale, around $2.8 TRILLION worth of assets will be brought onto balance sheets across the world in 2019. The Wall Street Journal has estimated that the biggest companies will be boosting their debts reported on balance sheets by tens of billions of dollars.

This epic scale will be relative to the size of your own lease portfolio, though, so as well as thinking about the financial value of your lease portfolio, stakeholders will be interested in knowing what percentage of your turnover and other financial amounts your lease worth represents.

To use a hypothetical (and somewhat hyperbole heavy) analogy from completely the other end of the scale from, say, Delta Air Lines Inc putting tens of billions of dollars on to its balance sheet, think about something like a tiny “painting and decorating” firm. Their handful of £15,000 vans might not amount to Earth shattering amounts of money but will represent a large percentage of their overall on-going and committed costs. The fact they’ll be brought on balance sheet might have a big impact on whether their bank manager will carry on lending the firm money when a couple of clients have been late with payments or they wish to expand their fleet.

Again, this is, of course, hypothetical and mentioned purely to illustrate a point. The point being that if you have any form of lease portfolio; there is work to be done and decisions to be made by your stakeholders.

To start, all new and existing leases will need to be reviewed and in future written to ensure compliance with the new standards and this will take up some considerable management time.

Regulators need a full audit trail to show compliance with the new standards, including a transitional report. This means that besides assessing what is and is not a lease and working out where to report what, a full and proper base of paperwork needs to be made available too.

This begins to show how much work is involved with the looming IFRS 16 lease accounting changes. Yet, according to a study from Deloitte, only 9.8% of financial and accounting professionals say their company is prepared for compliance with the new accounting standards.

This is because there simply is very, very little time to consolidate all existing lease information and agreements, assess them against the new standards, create transitional and retrospective reports and also manage new lease agreements coming into action. This needs doing despite a business conducting ordinary responsibilities at the same time.

How To Get Organised

Embracing lease accounting technology and external help is probably the most efficient way to get organised.

Software designed specifically for businesses to become compliant with lease accounting changes such as IFRS 16 can help your business ensure it’s compliant. Data can be inputted and software like Innervision’s LOIS can run reports and analyses to see where savings can be found and what needs to be done in order to become compliant and ensure risk is minimised.

If you’d like to read more about how your business can become compliant with the new lease accounting changes, be sure to check out this handy 7 step guide to compliance.

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