Nov 14, 2018 8:33:00 AM

Why the FASB Lease Accounting Changes (Almost) Don't Matter

By Don Catalano

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Why the FASB Lease Accounting Changes Almost Don't Matter
With lease accounting standards in play for the entire second half of the "aughties" decade and for most of the 2010's, many commercial real estate executive have spent the bulk of their careers with no certainty as to how leases will get treated by accountants. With the passage of the new FASB standard in 2016, replacing the 1976-vintage FASB 13 lease accounting standard, the industry has some clarity. However, here's the interesting thing: the changes to the lease accounting standards don't matter much.

 

It's true that most companies will have to use a completely different method to account for their leases. And it's true that the new standard will generate a great deal of work. Their balance sheets will get bigger and more complicated. One seeming benefit of all of this is that most companies who lease space will have higher EBITDAs as a result of the change. But the odds are that none of these changes will amount to much in the scheme of things. Here's why:

 

EBITDA Changes Won't Change Valuations

Especially in the world of privately held businesses, valuations are typically calculated by taking a multiplier and applying it to a company's adjusted EBITDA. So a company with a $7 million EBITDA that would sell at a multiple of eight would be worth $56 million. Thanks to the new FASB standard, EBITDA-included operating leases are now a combination of interest and depreciation -- both of which are excluded. This means that FASB, your company's EBITDA should grow when you reclassify your leases.

 

Valuation experts (and buyers) are professionals. Even if your EBITDA changes, your business won't. They will probably adjust your EBITDA down or change the multiple to keep your valuation the same.

 

FASB-Tweaked Balance Sheets Aren't P&Ls

Your company will have more assets and more liabilities as a result of the change. The payments you send your landlord will be accounted for differently, too. However, if you were writing a $50,000 check every month for rent, you'll still be writing that same check, and the impact on your company's P&L will not change.

 

Bear in mind that while the FASB changes will impact your company's ratios, they're unlikely to have any deeper impacts. Since this change will happen on a large scale, it's likely that any analysts looking at your company will just adjust their assumptions for every company for what ratios are normal and acceptable.

 

Leasing Still Makes Sense

Finally, while there are businesses that leased their commercial real estate to take advantage of the opportunity to get off-balance sheet financing, there are still real benefits to leasing. Leased property is flexible. It usually means that you have a third party to help you with the nuts and bolts (if not the cost) of running the property. Finally, if you don't need a leased property at some point in the future, the landlord takes that risk instead of you. You still get all of those benefits, regardless of how FASB has you account for the lease.

 

Here are a few other articles to check out:

Transforming Your Next Office With the IoT

The Costs of the Benefits of the Internet of Things (IoT)

A, B, and C Class Office Space - What You Should Know

 

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Topics: FASB

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Don Catalano

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