ARTICLE | May | 2013
Impact of revised IASB/FASB regulations on IT Equipment Leasing
Abstract: The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have jointly revised the Accounting standards for leasing procurement, which will be effective for enterprises beginning in 2017 and required to be incorporated in accounting records from 2014. This article will discuss key
Author
implications of the revised regulations on enterprise IT Rakshana B | Research Analyst
procurement strategy.
Copyright Š Beroe Inc., 2013. All Rights Reserved
Overview – Release of Revised Exposure Draft for Lease Accounting The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have jointly devised new guidelines for leasing to improve the financial visibility of the company to investors. After the release of the first draft in 2010, the revised Exposure Draft was postponed throughout 2012 and was finally released in Q2 2013. IT assets on lease are generally recognized as a capital/finance lease or an operational lease. In a capital lease, the equipment is recognized as an asset and liability in the financial statements, whereas in an operational lease the assets are usually relegated to the footnote of the financial statements. Historically, operational leases have been preferred because the company can account for the cost of the equipment as an operational expense. However, with the release of the revised standards, all leases will henceforth be capitalized.
Off-Balance Sheet accounting of assets and liabilities will no longer be a driver to adopt IT equipment leasing.
The impact areas on IT procurement are: ● Increase in lease cost heads in a Buy vs. Lease analysis ● Negating the advantage of off-balance sheet accounting of leasing which was a driver in influencing the leasing procurement decision
Impact on IT Equipment Leasing:
Fig.1. Comparative Study of Impact on Lease Types Computing Hardware
Real Estate Aero planes Medical Equipment
Lease Duration
equipment.” – Steve Impact on IT Leasing by Equipment
Network Equipment
Low Low
Product Obsolescence
Telecom Equipment
Capital Lease
Impact
High
Operational Lease
Medium
Low
Bossert, Director of IT Asset Management Group
Printer Equipment High
volume of PC infrastructure
Fleet Leasing
Construction Equipment
hardware), due to higher procurement over other
High
Servers
IT and Office Equipment
equipment leasing is on PCs (Computing
IT equipment procurement will be highly impacted by the revised regulations as they are primarily funded using the operating lease model due to high technological obsolescence and unprofitable buy-out options as demonstrated in Fig.1. High
“Nearly 80% of IT
Low
Higher volumes involved in computing hardware sourcing, in comparison to other IT equipment, usually results in the adoption of a leasing model, primarily an operational lease, due to economic viability through economies of scale.
“If you have the systems, processes and practices in place to comply with the new
Based on the new regulations, combined with the evolution of the supply landscape and technological enhancements, the IT hardware equipment would be procured in the following manner.
standards, then your organization can continue to lease and focus on the
Fig.2. Procurement Model – Decision Making Criteria and Opportunities
economic benefits of IT Equipment
leasing.” – Michael J. Keeler, CEO of LeaseAccelerator.
Is lease still economically profitable over buying?*
Buyers can look to Yes
Procurement Model – Lease
outsource lease services which include software and expert assistance. For example, LeaseAccelerator is a cloud based accounting
No
Computing Hardware
Servers
Network Equipment
software which helps Telecom Equipment
Printer Equipment
lessees in streamlining portfolio management, accounting and reporting as per the new standards.
Procurement Model – Direct Purchase
Procurement Model – Infrastructure as a service
Procurement Model - Hybrid Managed Print Services Direct Purchase
*Assuming that the accounting practices comply with the new standards to complement the adoption of leasing model
The revised regulations will require the buyers to reassess the Buy vs. Lease analysis to verify if the increase in lease cost heads proves unprofitable over the contract duration. This will drive the adoption of alternative optimal cost procurement models for IT hardware for which the decision making criteria and opportunities are represented in Fig.2.
Some of the major clients currently adopting LeaseAccelerator are NetApp, Cummins and Eaton.
Effect of Revised Regulations: To enhance the leasing and financial visibility of the company, the revised regulations mandate that all equipment leases should be considered as capital leases based on the following standards: ● ● ● ●
Asset ownership and risk is transferred to the lessee at the end of the lease term The lease has a bargain purchase option The asset is leased for more than 75% of the useful life of the asset The minimum lease payment is 90% more than the current fair market value of the asset
Accounting Ratios that will be modified ● Debt/Equity Ratio ● Return On Assets
Fig.3. Leasing Model Types – Current and Future State Leasing Model Types
Current State
Capital Lease
Operating Lease
Future State
Right of Use Model
Short Term Lease
As per the revised accounting, the lessees can choose from two major leasing models: Right of Use Lease model and Short Term Lease model. The Right of Use model will entitle the lessee to include the assets as a Right-Of-Use (ROU) asset and the liabilities as lease liabilities on the balance sheet, thereby essentially capitalizing all leases. The short term lease model allows the lessee to avail a maximum period of 12 months for the lease (including renewal). The short term lease model, which can be classified as an operational lease, can be used for temporary replacement of IT hardware or provision for a temporary worker on an ad-hoc basis.
After the effective date, enterprises will be required to stay in compliance with not just FASB and IASB but also external regulations such as Sarbanes-Oxley Act.
Impact Areas: The new standard will require a revisal of accounting processes for those businesses using operating leases. This will impact the administrative complexities resulting in: â—? Having to track the deferred income tax which was not required earlier for operating leases â—? Necessity to separate the lease and non-lease components(such as maintenance, insurance etc.,) â—? Having to track additional data elements from the lease, such as asset depreciation and economic incentives for lease renewal like bargain renewal rates, borrowing rates etc., on a quarterly basis In a decentralized leasing environment, the revised regulations will result in increased complexity in accounting for operating leases from different sources and aligning it to the new regulatory standards. This will increase the administrative costs by additional expenditures on accounting automation software and expertise. The direct costs such as monthly lease payments and end of lease purchase (bargain purchase or one dollar purchase options) will not be impacted by the revised accounting standards. However, indirect cost component of tax payments will be revised due to the capitalization of leases.
Implementation Timeline First Exposure Draft Issued in 2010
Revised Exposure Draft in 2013
Final Exposure Draft 2014
Effective Date of Implementation 2017*
The effective date of implementation for businesses is expected to be between three to four years post the issuance of the final exposure draft (ED). With the release of the revised ED in May 2013 and the expected final ED in early 2014, the effective date of implementation could be as soon as the beginning of 2017.
Conclusion - Action Plan for Buyers: All lessees will be required to conform to the revised accounting standards beginning in 2014, as it is required to show a 3 year accounting record prior to the effective date. Although the revised regulation will negate the advantage of off-balance sheet accounting and increase the administrative complexities, leasing can still be a profitable sourcing decision provided that buyers have the accounting practices in place to comply with the new standards and a well-structured buy vs. lease analysis.
Keywords Used FASB, IASB, Revised exposure draft, IT Equipment Lease, Right of Use Model, Tax Payment
References http://lesseeadvocate.com/newsletter/?newsletter=Coming%20Lease%20Accounting%20Changes http://lesseeadvocate.com/2011/07/ready-for-the-ifrs-lease-accounting-changes-fear-not-%E2%80%93-new-whitepapercan-help-you-prepare/#more-328 http://www3.cfo.com/article/2012/7/gaap-ifrs_fasb-iasb-lease-accounting-equipment-leases http://www.fasb.org/jsp/FASB/FASBContent_C/ProjectUpdatePage&cid=900000011123#decisions http://www.kpmg.com/uk/en/issuesandinsights/articlespublications/pages/draft-leasing-standard-fasb-leasing-project.aspx http://www.pwc.com/us/en/cfodirect/issues/leases/index.jhtml
“The lease vs. buy decision is an essential calculation that buyers should make to compare lease and buy cost heads over a period of 3 years. It includes current and future costs. The decision to adopt a lease will also be influenced by the internal policy of the company to lease and the current borrowing rate.� - Erik Grissell Global Indirect Sourcing at Nortek