ASC 842 Adoption for Private Companies - A Q&A with DHG’s Liz Gantnier
Liz Gantnier, DHG Audit Innovation and Methodology Partner, has been preparing clients for more than five years on the Financial Accounting Standards Board’s (FASB) new standard on accounting for leases. While implementing the new reporting has been delayed for private companies time and again, Liz believes the “have to” moment for more complex lease accounting has finally arrived. Liz sat down for a series of Q&As on Accounting Standards Codification (ASC) 842, Leases and its impact on organizations. Below is our first take with Liz on Leases.
Q: What is the current state of ASC 842, Leases and implementation?
L.G.: There's been this seismic shift in accounting for leases that occurred when FASB issued Accounting Standards Update (ASU) 2016-02, (ASC 842), Leases. In a nutshell, (almost) all leases end up on the balance sheet as an asset and a liability. This is a change from the legacy standard where operating leases stayed “off the books.” That is, they were categorized as “rent expense,” and there was no balance sheet implication to those leases other than the impact of deferred rent. As I talked to analysts and lenders about the “off the books” concept, they told me that they would manually adjust the liability section of a company's balance sheet by a factor that was multiplied by rent expense. For instance, if your rent expense was one thousand dollars, an analyst might take a factor of eight and multiply the one thousand dollars of rent expense by eight and add the resulting number to the liability section as a gauge of what the future commitment, that is the liability, for lease payments would be.
Q: Why did FASB make this change to the lease accounting rules?
L.G.: FASB heard this same story from the investor community, and over the years they debated, “How can we move these lease expenses onto the balance sheet?” The issue really came to a head when FASB focused on transparency. They felt that the most transparent way to account for something was to have it land somewhere on the balance sheet. If you really want people to understand what a lease liability means from the standpoint of non-cancelable commitment to cash outflow, the best way to do that is to measure that liability and get it on the balance sheet in the liability section.
Read: Subleasing Accounting Implications: Is My Lease Impaired?
Q: That sounds like a reasonable concept. Why has this taken so long? Why the delays for private companies?
L.G.: A few things caused these delays. First was the long-standing accounting for leases that was accompanied by robust disclosures – many accountants weren’t, and some still aren’t, convinced that we needed this level of transparency. After all, the information was ‘readily available’ – you just had to find it in the footnotes. Additionally, the International Accounting Standards Board (IASB) took up the project, and we needed to sync up our discussions with theirs. Since then, most U.S. public companies have already implemented ASC 842. At first, FASB thought that private companies would only need a year to learn what public companies encountered with the adoption of an accounting standard and then decided that the stagger between public and private adoption had to be longer. The change to the stagger in public versus private adoption caused the first delay to the private company adoption effective date.
Q: And then another delay occurred; why did that happen?
L.G.: Unfortunately, a pandemic occurred. Suddenly, we were under stay-at-home orders at the same time we were supposed to be implementing ASC 842. The process of gathering lease documents and extracting the necessary data points can be time-consuming, depending on the volume and complexity of your organization’s lease portfolio. FASB realized that many businesses were sidetracked by the immediate operational needs brought on by the pandemic and that lease implementation might be rather difficult. So, they delayed implementation for private companies once again.
Q: Do you anticipate another delay of ASC Topic 842?
L.G.: No. Of course, anything is possible in this world, but I have not heard any indications of another delay. Assuming no further delays occur, private companies with calendar year-end financial statement reporting dates are going to have to comply with this new standard as of Jan. 1, 2022. Let me clarify – the technical answer is that it's effective for fiscal years beginning after Dec. 15, 2021. That means if you are a calendar year-end reporter, the fiscal year that begins after that is Jan. 1, 2022 – only six months away.
Q: So, how would you advise private companies now on their implementation of the new lease standard?
L.G: Many private companies don't report fully compliant Generally Accepted Accounting Principles (GAAP) financial statements on a monthly or other interim basis and may choose to implement as of Jan. 1, 2022 – but not until sometime in 2022. That is, the first GAAP financial statements they produce may not be until Dec 31, 2022. They will record the implementation entry as of Jan. 1 but may not work on the project until after Jan. 1 has come and gone. Others may be expected to produce GAAP-compliant financials more frequently than year end and will need to address the impacts of the standard sooner rather than later. Additionally, depending on the size of your lease portfolio and how complex those leases are, you might need to be starting now. What we've learned from public companies is that there is a lot of effort that goes into this (more than they expected), and you’ve got to know a lot about your lease portfolio and the accounting standard from the start. If you only have three leases, that may not be that difficult of an implementation. But if you've got a larger volume, say more than fifty, or your leases are complex as many real estate leases are, companies should not underestimate the amount of time it will take to gather and evaluate these leases under the new standard
View Our Webinar Recording: ASC 842 Implementation Challenges Create the Need to Act Now
Q: What else should private companies be considering?
L.G.: Equipment leases should be considered – many companies have a high volume of equipment leases that, just based on the number, will take some time to gather and evaluate. Additionally, companies will need to ascertain that they have captured all leases – a review of expense contracts for embedded leases will be required and could be a huge time commitment. How many resources you need for this depends on your unique situation.
Q: What about lease accounting software? Did public companies have success with using software to manage this task?
L.G.: It was rare to find one software that did everything you needed it to do. But no matter the software solution, you still need to input all that information into the system. The public companies learned that the software choices got close, but often not 100 percent. Because of that, they had to implement manual workarounds (Excel for example) and consider the controls they needed over those manual processes. What I want to emphasize is that the companies should consider the volume, the complexity and the dynamic nature of their leases to determine what solutions they may need. Some companies may decide to outsource all or part of this effort due to resource constraints.
Q: What would you tell a private company that hears this and starts to panic a little?
L.G.: There's help, right? DHG is here, and we can assist in talking through the new lease accounting standard and your options for next steps so you feel confident in how you want to move forward. We have teams of people who are familiar with implementation of the standard and many of the software solutions currently available.
Q: What can we expect on the next Leases Q&A discussion?
L.G.: I think our next discussion should be about helping companies prepare their game plan. Get into the details a little bit. It will be fun.
How DHG Can Help with Your Lease Accounting (ASC 842) Implementation
Learn more at dhg.com/leases about how DHG can assist with your lease accounting requirements, including:
- Lease Identification
- Lease Classification
- Lease Review & Contracts
- Lease Calculations
Contact us to discuss your lease accounting implementation needs and subscribe for our next Quarterly Perspectives webinar where we’ll cover various financial reporting and related matters.
Still Have Questions?
Have questions on Lease Accounting we haven’t addressed? Submit your questions here and we’ll address them in a future Leases Q&A session with Liz.
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