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The International Accounting Standards Board (IASB) has issued the long-awaited lease accounting standard that would significantly impact the bottomlines of lessees with ‘operating lease’ arrangements.
This new lease accounting standard (IFRS 16) -- to become effective globally from January 1, 2019 onwards -- is significant as it would bring operating leases onto company balance sheets for the first time.
It would replace accounting requirements introduced more than 30 years ago.
Lease commitments worth trillions of dollars, which have remained as off-balance sheet items, will now come onto balance sheets, impacting bottomlines of companies in several industries.
Reacting to this development, Dolphy D Souza, Partner in Indian member firm of EY Global and IFRS Leader India, said that the standard is likely to have a negative effect on Earnings Per Share (EPS) for companies in industries such as airline, telecom, retail, etc that have large exposure to operating leases.
"In the past operating lease payments were accounted under straight line method. Under the new standard there will be depreciation and interest. The way reducing balance method works there will be higher attribution of interest on initial year lease rentals. Therefore EPS will go down", Dolphy told Business Line.
Dolphy also said that he does not anticipate any carve-outs when this global standard is endorsed under Ind AS (Indian version of IFRS) in India.
In the previous standard the operating lease payments were presented above the Earnings before Interest, Tax, Depreciation and Amortisation (EBITDA) line, Dolphy added.
The new standard will have a positive effect on EBITDA because depreciation and interest will be presented below the EBITDA line.
Vishal Seth, Managing Director and Leader (IFRS and Financial Reporting Advisory), Protiviti India said the new IFRS standard will have an enormous impact on the business model of many industries/sectors, in particular, companies in the airlines, distribution and retail sector.
"Subject to the permitted exemptions (less than 12 month leases and lease of smaller assets), the new framework shall require the lessee in an operating lease arrangement to recognize assets (previously off-balance sheet) on their balance sheet with a corresponding obligation.
Further, it would also impact the company’s EBITDA, borrowing costs, bank covenants as well as the overall equity (due to the mismatch between the amortization of the asset and settlement of the lease liability)", Seth said.
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