But in this case, some expected changes in lease accounting rules played a role in management's decision, too. "We'd have to carry the asset on our books anyway," he says. "If the accounting looks the same, and with the cash savings, we might as well own it."
The overhaul of lease accounting rules started in earnest in August 2010, when the Financial Accounting Standards Board and International Accounting Standards Board issued a joint exposure draft identifying their proposed changes. The rules overhaul continues today, albeit "in fits and starts," says Betty Davis, a partner in the financial services office with Ernst & Young.
A May meeting of FASB and IASB was particularly noteworthy for its uneven character. The boards reversed an earlier decision in which they had indicated that interest expense for "other-than-finance" leases would be recorded in a straight line on lessees' income statements. The earlier decision was part of the boards' response to companies' concerns that the front-loading of interest expense under finance lease accounting didn't always make sense, particularly for short-term leases.
The reason for their change of heart? "Some board members expressed the view that an upfront pattern of lease expense recognition is consistent with the future commitment to making lease payments in the earlier years of a lease," according to .
The boards did leave some wiggle room for leases with terms of up to 12 months. These short-term leases can be accounted for "by not recognizing lease assets or lease liabilities, and by recognizing lease payments in profit or loss on a straight-line basis over the lease term," according to .
FASB and IASB also changed their previously proposed method for calculating the term of the lease. In the August exposure draft, they proposed including renewal options that were more likely than not to occur, as well as contingent rent payments. "They're now defining it as the contractual term of the lease, unless the lessee has a significant economic incentive to renew the lease," says Vivian Mumaw, global leader of lease administration with Jones Lang LaSalle Americas Inc. At this point, the Boards haven't clarified their definition of a "significant economic incentive," she adds.
The Boards also identified the costs that should be included within the asset value recorded on the balance sheet, Mumaw said. The amount doesn't include operating expenses, such as utilities, nor does it include rental payments that are contingent on sales. It does include any rent increases known at the outset, as well as costs that are integral to the lease transaction, such as legal fees.
Although the latest iteration of proposed lease accounting rules has limited the expenses that will go into determining the value of a lease, companies still will have higher levels of liabilities on their balance sheets. "That's the kicker. When you look at companies under the new lease proposal, they're going to look more highly leveraged," says Sam Johnson, partner with the accounting firm of Cherry, Bekaert & Holland LLP. Shorter-term leases, which will mean a smaller liability on the balance sheet, might be more attractive in some cases, he says.
At the same time, leasing still will have a role to play, Johnson notes. It offers flexibility, financing and allows the lessee to avoid obsolescence. What's more, many properties, such as retail spaces in a mall, only are available via leasing.
Atlas Air Worldwide Holdings, Inc., a provider of outsourced aircraft and aviation services, decided to renew its lease on its headquarters building in Purchase, New York. While management considered a variety of options, including purchasing space, leasing continued to make sense, says chief financial officer Spencer Schwartz. "We developed a complex model that took into account incentives offered by various locations, as well as the cost to re-hire and train new employees. In the end, we decided that the right thing for our businesses and our employees was to stay put and lease."
Atlas Air's customers likely will go through a similar analysis when deciding whether to buy airplanes or outsource with Atlas and obtain ongoing crew, maintenance and other services, Schwartz says. He adds that most aircraft last for decades. "Our customers have to think about making a 30- to 40-year commitment, versus entering a three- to five-year service arrangement with Atlas."
The stream of changes to the lease accounting proposals over the past few months have some in the industry wondering how long it may take for the final proposals to be issued.
In its June 2011 Project Update, FASB indicated that it wanted to issue a final standard in 2011. However, if the new standard has changed significantly from the Exposure Draft issued last August, it may be necessary to issue a new exposure draft and extend another comment period. "It's a guessing game," Davis says.
Even so, CFOs should start preparing now to collect information, such as the terms and rates on the leases within their portfolios, so that they'll be ready to do the calculations, says Jones Lang LaSalle's Mumaw. Depending on the size of a company's portfolio, that may take a year, she says. It also makes sense to develop or acquire technology that can house the lease information. They'll also need to decide how to handle other contracts that might be impacted, such as loan agreements that limit the amount of debt on a company's balance sheet.
While the changes are significant, they are unlikely to lead to a massive shift from leasing to buying assets, says Brian Radecki, chief financial officer with CoStar Group, a Washington, D.C.-based provider of commercial real estate information
"You try not to let the accounting dictate operationally what the business does," he says. The proposed rules make up just one factor that a firm will look at when making a lease-versus-buy decision, Radecki adds. Companies also will consider their estimated rate of return, and their ability to make the purchase in the first place.