It’s Midnight on Sept. 13 – Do You Know Where Your Leases Are?
by Carlos Passi, assistant controller to IBM CFO
Originally published on September 10, 2013 at The Wall Street Journal.
On Wednesday, Sept. 13th, the comment period will end on sweeping changes to accounting regulations requiring every business to list the value of all leased assets on their balance sheets – from real estate to equipment to technology infrastructure. Despite their looming impact, a recent survey from IBM and CFO Research shows 92% of companies with revenue in excess of $1 billion are not prepared for the changes.
These new rules will mean enormous, mandatory compliance shifts, to the tune of an average of $1 billion in new assets on the books of S&P 500 companies. Across all balance sheets, this translates to up to $1.25 trillion in off-balance sheet liabilities being added once these rules take effect, according to the U.S. Securities and Exchange Commission.
Real estate, for instance, is by far one of the largest leased holdings today – and one of the top four expenses for two-thirds of companies. Retailers with hundreds of storefronts, manufacturers renting factory space, enterprises spanning global offices, telecommunications companies with leased towers, airlines with long-term contracts on their fleets – all will be impacted by the rules, written and expected to be revised by the U.S. Financial Accounting Standards and International Accounting Standards Boards this year.
However, the new standards also present an opportunity for CFOs to capture enormous competitive advantage through asset allocation. According to the survey, a shocking majority of organizations today use basic spreadsheets to track their leases, with virtually zero insight into how they are used, maintained, and producing revenue.
Through intelligent asset management, companies can use the regulations to gain stronger visibility into their businesses. For example, companies can gain transparency into where energy, equipment and space costs could be reduced, and improve returns on their assets. No matter how the regulations change, this is smart business, and there is much to gain, including stronger investor confidence and bottom lines.
Companies, however, must ensure assets don’t turn into burdens and sour stakeholder attitudes. Assets should be meticulously managed with advanced analytics, using the same rigor applied to overall financial investment portfolios.
Achieving this revolves around four main concepts:
- Embrace Big Data: Real-time data leads to the creation of predictive scenarios, offering insight to better manage cash flow, comply with regulations easier, and address credit iss
- Institute a single, consolidated lease accounting system to integrate operational and financial functions. These systems reach across all classes of leased assets — including real property, fleet, and technology — and provide critical date alerts, payment processing and financial assumptions for leases in one central, accessible place
- Establish new lease accounting processes to model complex new scenarios, especially related to renewal or termination of leases. For example: analyze complex lease decisions, such as 10-year leases with two renewal options versus 20-year leases.
- Don’t just comply with new rules, eliminate under-utilized assets. Take advantage of new processes to identify mismanaged assets sooner, and remove them before they impede financial ratios, run afoul of regulations, constrain access to capital or violate debt covenants. Increase efficiencies, such as predicting demand for space, displaying gaps between demand and availability, lowering energy consumption of plants when production levels slow, etc.
These four principles achieve one goal: higher return on assets. Companies will need a centralized view of all assets to support end-of-lease and lease renewal decisions. When cash flow, debt and liquidity positions are understood, enterprises can better match their expected benefit of a project with required payments, ultimately easing financial burden and increasing return on assets (ROA).
To wit: global enterprise properties span multiple major cities, and too often these leases are decentralized and managed independently by individual business units. The result is redundant: under-utilized real estate assets in metro areas, with duplicate information technology, telecom, reception areas and meeting spaces, and no means to identify inefficiencies.
For example, growing technology companies, or any rapidly scaling business, can use systems to view occupancy rates of their buildings, all the way down to employee workspaces. An office cubicle might sit vacant for a good portion of the day, and the associated cost is at a premium. By using software to identify utilization trends, businesses can use progressive “hoteling” to optimize space, saving millions in wasted resources while still meeting evolving employee needs.
Complying smartly involves multiple levels: CFOs, facilities operations, real estate executives, accountants, asset managers and CIOs. But CFOs are in an especially unique position to lead strategic shifts. As the CFO’s role continues to evolve from corporate scorekeeper to a catalyst for change, analytics and technology will be critical in identifying growth opportunities and risks.
What can you do now? Take inventory and understand your leases to estimate the scope of technology required across your company. Done steadily and strategically, the benefits are exponential: retailers can institute better systems to not only track how much space they’re using, but also how often their lights are being changed and which shelves and counters need repair. Manufacturers can implement processes to graphically view real-time floor plans of any factory worldwide, gleaning color-coded data about line productivity and energy consumption. Burgeoning companies can conduct “what if” scenarios and spot the need to scale well in advance, allowing ample time to find and negotiate office leases within budget.
Especially in asset and real estate-intensive industries, these new standards – no matter how they look when passed – will make capital allocation a game changer to win investor confidence. By evolving with these changes, companies can use them to their advantage to build stronger, more intelligent and financially agile organizations.