Although the final standard has not yet been issued, it is clear that the exposure draft, in its current form, will impact materially on a number of areas within the telco operational and reporting environment.
This is according to PricewaterhouseCoopers (PWC) Southern Africa communications head, Johan van Huyssteen.
He says, therefore, it is of utmost importance for operators to understand the requirements of the exposure draft and the commercial and reporting impact on their business as soon as possible, especially considering the time and effort that would be required on implementation.
The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) issued their exposure draft on leasing on 17 August.
This will require lessees to report all leases on balance sheet and have a significant impact on the lessee and lessor's financial reporting, asset financing, IT, systems and controls. The final standard is expected to be released by mid-2011 and the effective date is uncertain. Indications are for the standard to become effective in 2013.
Van Huyssteen says the exposure draft aims to address the perceived weaknesses in reporting leasing transactions in existing GAAP.
“Leasing is very popular and plays an important role in sourcing finance. It enables companies, from start-ups to multinationals, to acquire the right property, plant and equipment without making large initial cash outlays,” he points out.
Telecom companies will experience significant change as a result of the exposure draft, he says, as the boards appear ready to require all leases to be recognised on the balance sheet.
“Telecom companies in particular will be affected, not only because of the magnitude of the impact on their financial statements, but also because of the impact on systems and processes given their numerous smaller leases,” he adds.
Books in balance
Balance sheets will grow, leverage ratios are expected to increase and capital ratios to decrease, Van Huyssteen says. “There will be a change to both the expense character and the recognition pattern; as the previously recognised straight lined operating expenditure will be replaced by finance cost and depreciation (in the instance of operating leases).
According to van Huyssteen, “Lease-buy decisions may be influenced as telecom companies are not only affected as lessees but also as lessors in their business transactions. The reality is that significant changes to internal controls and accounting/information systems are likely to occur.”
Typical agreements in which telecom companies act as the lessee include leases of land, buildings, equipment and vehicles, PWC says. Other agreements that could qualify as leases include capacity contracts, rights of access, satellite broadcasting contracts as well as IT outsourcing agreements.
“The magnitude of the impact of the proposed lease accounting model will be dependent on which of the agreements fall within the scope of the new standard. In addition, the standard is likely to require significant resources and effort,” continues van Huyssteen.
He says in the exposure draft, the boards have proposed that for leases with a maximum possible term (including all extension options) of less than 12 months, lessees can use a simplified form of accounting. No other exemptions have been proposed.
In March 2009, the boards issued a joint discussion paper in which a number of telecoms operators provided input. Overall, most telecom companies agreed with the general direction of the exposure draft, says van Huyssteen.
“Not all operators were convinced that the current model was significantly flawed and the model was considered a reasonable approach given some of the issues that users have with current accounting,” he points out.
Many global operators, however, believed that the increased complexity and use of estimates would not add to the overall reliability and transparency of the financial statements, according to him. “They raised concerns about whether benefits outweigh the costs.”
Proposal impacts
PWC performed a benchmark study to assess the impact of the proposals on the financial statements and key financial ratios of a sample of 125 listed telecom companies from 32 countries, he says. “The study identifies the minimum impact of capitalising the operating lease commitments disclosed in the published financial statements.”
In view of the proposed inclusion of likely lease renewals, he says, contingent rentals and residual value obligations, the eventual impact may be much greater and may also impact the amounts currently recognised for finance leases.
“The study also takes no account of any transitional relieves that will be available on first time adoption of the new standard. Nevertheless, it provides an indication of the impact that the proposed lease accounting model may have.”
“'Ebitda' is a key performance measure for most telecom companies. Ebitda will increase as a result of the replacement of operating lease expenses by depreciation and interest expenses.
“For 22% of the companies, the increase in Ebitda is expected to be between 10% and 25% and for 13%, more than 25%.”
From a balance sheet perspective, the debt to equity ratio is an important ratio for many companies. Based on our study, we conclude that the ratio is expected to increase by more than 10% for more than 50% of the telecom companies and more than 25% for at least 25% of the companies, he says.
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