Comment: Leases one year on—Putting IFRS 16 into practice17 January 2017
Sue Lloyd, vice-chair of IASB looks at how companies are getting on with IFRS 16 and what they should consider.
When the International Accounting Standards Board (the Board) issued IFRS 16 Leases in January 2016, bringing former operating leases onto the balance sheet, it set an effective date of 1 January 2019. This gave companies three years to implement the new Standard. We are now a third of the way into that implementation period—how are companies getting on and what should they consider?
Transition options and benefits
The transition requirements in IFRS 16 provide a number of different options for companies applying IFRS 16 for the first time. There are potentially very significant cost savings available depending on which options are chosen. However, taking the least costly options will lead to approximations in a company’s financial statements. These approximations will affect reported amounts in the year of transition and possibly for several years thereafter.
It is therefore crucial that companies think about their transition choices as early as possible. This will enable them to make the best use of the cost savings available, and find the right balance between cost and reporting outcomes based on their own particular lease portfolio.
Early planning and practical steps
Companies must allow themselves sufficient time for the practical steps involved in implementing IFRS 16. If companies have not yet started their implementation activities, they need to do so soon. Those companies that have already started are finding that there are some time-consuming steps to be taken in the early stages.
For example, some companies with large volumes of leases are finding that the initial step of identifying and locating all of their lease contracts may in itself be a substantial task. Companies next need to establish a process for entering those contracts into their accounting system and ensuring that the data entered is accurate. Accounting teams are likely to need to spend time talking to other parts of the business. This is not only to identify contracts, but also to understand the reasons for contract provisions such as extension options and variable payments. Engaging with their auditors in the early stages of implementation is important too.
Most accounting judgements required to apply IFRS 16 are already required applying IAS 17, the old leases Standard. That is because IFRS 16, in essence, increases the population of contracts to which finance lease accounting judgements need to be applied. However, some new information is needed to apply the requirements in IFRS 16. Most notably, companies will need to establish the discount rate for each lease, including those that were formerly operating leases. Determining an appropriate discount rate for what were formerly operating leases is a new process, and is likely to be one of the most challenging areas to implement.
If companies have contracts for which establishing the discount rate may require judgement or new information, they could benefit significantly from an early consideration of their approach to determining discount rates.
Investor expectations and disclosures
A recurring theme we have heard over the last few months is the importance of companies making sure they are happy with their IAS 17 operating lease commitment note in their financial statements before the transition to IFRS 16. A user of financial statements might reasonably expect that the amount of lease liabilities appearing on the balance sheet when IFRS 16 is first applied will be broadly similar to previously reporting operating lease commitments, adjusted for the effect of discounting. If companies have any concerns about their existing operating lease commitment note, they should resolve these concerns now. Ensuring that lease disclosures are complete and robust before 2019 will avoid unnecessary complications on transition or surprises for users of financial statements.
It is also a good idea for companies to be communicating with their investors and other stakeholders about the effects of IFRS 16 sooner rather than later. This will enable them to manage expectations about exactly what will be coming onto the balance sheet in 2019.
We appreciate that implementing a new Standard requires a real effort by companies. However, the benefits are considerable, with both investors and the companies themselves getting more transparent information on liabilities.
Further information about the Standard and the implementation support available can be found on the International Accounting Standards Board website: www.ifrs.org.