Issue 3 | March 2014

Lease Accounting, Round 3?

Feedback may lead standard setters to simplify the proposal

When the first exposure draft on a proposed new lease accounting standard was issued in 2010 after years of deliberation, the response from stakeholders was harsh. So much so that the FASB and IASB renewed the difficult debate, finally resulting in a revised exposure draft issued last May. (See the June, 2013 issue of the Audit & Accounting Alert for details). Though the revised exposure draft removed one obstacle by excluding short-term leases, the response this time has been no less harsh. The original criticisms of excessive conversion costs and negative financial statement impact are still widely expressed, as well as concerns about continued uncertainty in this area of reporting.

During the comment period ending in September, 2013, 638 comment letters were received and dozens of meetings and webcasts were held with several thousand participants. In a joint FASB/IASB staff paper summarizing the feedback, the staff acknowledged that the response was high since most entities in most industries are lessees. The overview of the comment letters stated that: 

1. The majority commended the efforts to change existing lessee accounting, and the majority of users providing feedback “support the recognition of a right-of-use (ROU) asset and a lease liability by a lessee for all leases of more than 12 months. Most supported “a comprehensive and converged lessee accounting model for IFRS and U.S. GAAP.
2.  Many felt that the 2013 exposure draft was a significant improvement over the 2010 exposure draft.
3. However, many still disagreed with the lessee accounting model, and the majority disagreed with the lessor accounting model, wanting the existing model to remain unchanged.
4.  The majority had concerns over cost and complexity.
5. Many called for a “detailed cost-benefit analysis prior to finalizing any changes.  

From a speech given by IASB Chairman Hans Hoogervorst in Tokyo on February 5, the IASB and FASB appear to have gotten the message. Hoogervorst told the Accounting Standards Board of Japan seminar participants:

“We have already made some decisions designed to reduce implementation costs, such as the exclusion of short-term leases and most variable lease payments. We will seek further improvements by trying to exclude as much as possible what I call “small ticket” items. One possibility is whether to permit our requirements to be applied to a portfolio of leases – for example if an entity leases 100 photocopiers – then those leases could be accounted for as one item.

We may also look to further simplify the distinction between what we call ‘type A’ and ‘type B’-leases. We will probably also limit the changes to lessor accounting, as many do not consider lessor accounting to be especially broken. These are all decisions we will look to take in the coming months."

When the final standard is eventually issued, the addition of lease assets and liabilities to the balance sheets of lessees is bound to impact the financial ratios in loan covenants. Lenders already make adjustments in their loan analyses to take into account lease terms, according to their specific needs. Consequently, changes in the standard may result in different adjustments for some, provided that the same basic information is still available, albeit in different places. Companies will need to dialogue with their lenders to prevent unexpected outcomes as a result. Changes in EBITDA may occur, also, if rent expense is recharacterized as amortization.

For further information, see Lease Project Update

New Guidance for Management Accountants Proposed

AICPA and CIMA jointly offer company accounting principles with a global reach

Much attention and emphasis has been placed in recent years on the pursuit of standardized global financial reporting standards. Now two major accounting bodies, the American Institute of Certified Public Accountants and the Chartered Institute of Management Accountants, have joined forces to promote the establishment of Global Management Accounting Principles (GMAP). This endeavor follows in the wake of their joint effort that created the worldwide designation, Chartered Global Management Accountant (CGMA).

Along with the recently updated COSO frameworks on internal control and risk management, the International Integrated Reporting Council’s framework focusing on sustainability, and the International Federation of Accountants’ Professional Accountants in Business Strategy and Work Plan for 2013-2016, there is a wealth of new material for consideration. As stated in the GMAP exposure draft, “Globalisation and technological progress are making change harder to predict and organisations more vulnerable. Large and small, public and private, must compete in an increasingly inter-connected and international market. Innovation is delivered faster, and the very concept of long-term competitive advantage is being undermined as both the volume and velocity of information flows increase, and intellectual property becomes further commoditised.”

For those reasons, and since there is a wide diversity of management accounting technique worldwide, GMAP was developed to synthesize the best practices into a uniform set of principles. Differing from financial accounting’s focus on the past, effective management accounting can provide management with tools for looking ahead and enhancing decision making. A sound business model is crucial for the success of an organization over the long term.

Management accounting plays a key role in the development and implementation of the business model. The GMAP framework quantifies this role into three overriding principles:

1. Preparing relevant information: To ensure that organizations plan for their information needs when creating tactics for execution.
2.  Modeling value creation: To simulate different scenarios that demonstrate the cause-and-effect relationships between inputs and outcomes.
3.  Communicating with impact: To drive better decisions about strategy execution at all levels. 

The GMAP framework further elaborates on twelve practice areas for which the principles are applied: 

1. Budgeting
2.  Cost transformation and management
3.  External reporting
4.  Financial controls
5.  Investment appraisal
6.  Price and product decisions
7.  Project management
8.  Regulatory adherence and compliance
9.  Resource allocation
10.  Risk management
11.  Strategic tax management
12.  Treasury and cash management

While the GMAP lays out a general framework for management accounting principles, several other groups focus on specific areas of those principles. The COSO frameworks expand on the financial control and risk management aspects. In February, 2014, COSO issued a thought paper, “Improving Organizational Performance and Governance: How the COSO Frameworks Can Help.” COSO indicates that the purpose of the paper is “to relate the COSO frameworks to an overall business model and describe how the key elements of each framework contribute to an organization’s long-term success.” Enterprise risk management and internal controls demonstrate how risks can be identified and controlled in order to enhance an entity’s ability to achieve its objectives. The paper details why the frameworks are important to governance, strategy setting and business planning, execution, monitoring and adapting.

The International Integrated l Reporting Council’s framework issued in December, 2013, focuses on the external reporting area, providing guidance and a format for describing the business model and incorporating all internal and external factors that will impact the entity’s creation of value now and into the future.

The International Federation of Accountants (IFAC), through its Professional Accountants in Business Strategy, supports management accounting through resources that address all aspects of the requirements for success in this arena. The GMAP stresses that undergirding the principles of management accounting are the values of the profession, which are professionalism, relevance, innovation, diligence and ethics. These values are echoed and reinforced in IFAC’s Work Plan.

The challenge for management accountants, to assimilate the abundance of recent guidance, is similar to the challenge public accountants face. While conceptual frameworks are necessary to set the parameters, accountants are used to dealing with concrete measures. Hopefully, detailed policies and procedures will develop expeditiously, so that the admirable goals of the frameworks are not lost in the theory. 

For further information, see Global Management Accounting Principles

Additional A&A News 

The following links provide a selection of current articles devoted to highlighting other A&A topics currently making news.

1. Audit in their hands: what China can tell us about rotation
2. IAASB Releases New Framework for Audit Quality
3. Finance Execs Need to Get More Involved in Sustainability
4. Unnecessary disclosures targeted by SEC
5. Frauds on the Rebound in US
6. HP/Autonomy investigation: Tangled web of hardware and resellers