With the deadline for the new lease accounting standards getting closer, more and more companies are beginning the process of collecting data needed for the transition. At first glance, the process to collect lease accounting data seems straightforward. Read each of the lease contracts and extract key terms such as base and variable rent, payment frequency and timing, and end-of-term options. However, before you jump head-first into reading contracts, we would recommend taking a few minutes to understand the common pitfalls and mistakes that other companies have made collecting lease accounting data. For example, not all of the data needed is on the master lease agreement and schedules. If you only review the legal contracts, you may have an incomplete data set. Also, while real estate leases may represent the biggest dollar value, they will be the easiest leases to find and review. Leaving the non-real estate leases until the last minute could put your project deadlines at risk.
At LeaseAccelerator, we have worked with dozens of companies over the past few years to implement lease administration and accounting applications. Along the way, we have compiled this list of the five most common mistakes that companies make when collecting lease accounting data.
The Top 5 Mistakes Companies Make Collecting Lease Accounting Data
1) Delaying the Collection of Non-Real Estate Data
It is tempting to focus on real estate leases early in the project. Real estate represents the majority of the dollar value in most Fortune 500 companies’ leasing portfolio. Starting with real estate is an easy way to jump-start your project as much of the data is centralized in a lease administration system overseen by a corporate Real Estate team. However, tracking down all the data for your non-real estate assets could be quite challenging and time-consuming. Although the dollar value of equipment leases might be lower than real estate, the number of assets, lessors, and contracts is typically higher. The data about IT, fleet, material handling, and other equipment leases is scattered around the business in various bits and pieces. At most companies, there is no centralized group to collaborate with on collecting the data. Companies who put off efforts for collecting lease accounting data for equipment until the eleventh hour of the project will find themselves behind the proverbial “eight ball” – scrambling to gather at the last minute in hopes of complying with SEC deadlines.
2) Forgetting International Leases
Most US-based companies will start collecting lease accounting data in their headquarters region. This is a logical approach as leases written in English with US Dollars and American contracts will be the easiest to get your arms around. Requests to collect data from Accounting, Procurement, Treasury, and IT from teams in the US will be relatively straightforward. Postponing efforts to collect international leases could prove to be a critical mistake in the longer term project. Several weeks of additional effort will be required to process the data from each country outside of the US. Japanese, French, and German contracts will need to be translated into English. Currencies such as Yen, Euros, and Yuan will have to be converted into US Dollars. Furthermore, efforts to simply gain participation from various business units around the world will be more challenging. The 2AM email from the CFO requesting that all asset owners report on their leases is often easily ignored by key stakeholders in Asia. Leverage your executive sponsor to secure participation from international business units early in the project.
3) Skipping Embedded Leases
When companies begin collecting lease accounting data, many will focus on capturing data from traditional “leases.” However, the new lease accounting standards consider some outsourcing and service contracts to have embedded leases as well. In other words, contracts that a lawyer or a banker might not call a lease could be deemed leases by accountants if they meet certain criteria. Even if 80% of these service contracts prove not to meet the FASB or IFRS criteria for the definition of a lease, you will still have to perform the analysis process. As a result, the universe of data to be collected for your lease accounting project could be much larger than you expect. If you estimated that your company had 5,000 leases, you may need to collect data on 8,000 different “lease candidates” to perform the proper accounting. If you ignore embedded leases, you may find yourself having to negotiate additional service and outsourcing contracts to get last-minute help collecting the data needed to comply with the deadlines.
4) Collecting Schedule-Level Data
With the new accounting standards, leases will be reported on the balance sheet as assets and liabilities. As a result, data needs to be tracked the asset level for all leases. Most companies track lease data only at the schedule level under the current lease accounting standards. While most real estate leases have one asset per schedule, this is not the case for equipment leases. A single IT equipment lease could have 20 forklifts on it. At the end of term, 10 of those forklifts might be returned, another 5 purchased and another 5 renewed. That means each of the forklifts may require accounting with a different lease term and residual value. You will need to account for each of these assets individually. Similar situations exist for trucks, vans, laptops, printers, photocopiers, aircrafts, and office equipment. For most companies, there has never been a good reason to track individual assets under a lease until the new accounting standards were announced. As a result, most companies will be unpleasantly surprised at the lack of data that exists.
5) Off-Contract Data
A common misconception is that all of the data that needs to be collected about a lease is available on the original contract. Fields, such as minimum term, monthly and variable rents, and end-of-term options, are generally available on the contract. However, other data necessary for the accounting may not be. For example, the incremental borrowing rate; the general ledger code; and plans to renew, purchase, or cancel the lease are not on the contract. For equipment leases, data such as the asset’s current physical location and its assigned owner (employee) will need to be captured as well. Companies that are collecting lease accounting data only from schedules may find themselves in a quagmire when the accounting team begins to review and classify the leases. Companies should collect not only contractual data, but also operational (off-contract) data to provide a complete picture of the lease for the accounting organization.