Connect with us

How The New Operating Lease Could Affect Companies



FASB New Rules On Operating LeaseAs far as Accounting for ‘Operating Lease’ concern, under current FASB rules, a company can classify a lease as ‘operating lease’ if the lease period is less than the useful life of the asset and the lessor retains ownership rights and risks. Costs associated with such leases are treated as operating expenses. Capital leases, in contrast, cover long-term use and confer ownership risks and benefits. They are treated as debt.

FASB, has proposed take ‘operating leases’ out of the footnotes of financial statements and placing them squarely on corporate balance sheets, a change that would increase debt levels and reduce reported earnings at many large corporations. Final rules are expected from FASB by year end, and could affect companies beginning in 2013.


It also might alter return on assets and debt-to-equity ratios, says Dwayne Shackelford, principal at Huntley, Mullaney, Spargo & Sullivan, a real-estate and financial-restructuring firm. Collectively, companies in the Standard & Poor’s 500 have at least $549 billion in operating leases, estimates David Zion, an Accounting Analyst at Credit Suisse, as it is cited by (a WSJ’s subsidiaries). FASB’s proposal would consider the present value of all operating-lease payments and financing costs as debt.



How The New ‘Operating Lease’ Proposed Rule Affect FedEx and UPS (An Example)

Under current accounting rules, FedEx has far less debt than rival UPS. If a change in FASB rules requires the companies to add leases to their balance sheets, reported debt at FedEx will balloon. HOLT ValueSearch of Credit Suisse made a very clear demonstration:

To understand the impact of the possible rule change, consider the balance sheets of FedEx and United Parcel Service (UPS). FedEx finished its latest reported fiscal year (ended May 31, 2010) with $1.93 billion of debt, equal to 7% of its market capitalization. UPS, whose fiscal year ended in December, had $10.8 billion of debt, equal to 15% of its market cap, according to HOLT. If both companies were forced to add operating leases to their balance sheets, however, total debt at FedEx would jump to $16.3 billion, or 56% of the company’s market value. Debt at UPS would edge up to $16 billion, or 22% of its market cap.

                                                                    FedEx*                      UPS**

Total debt (billion)                                       $1.93                        $10.85

Debt/market capitalization                         7%                               15%

After inclusion of operating leases:

Debt + est. operating leases (billion)         $16.28                      $15.96

Debt + est. operating leases/market cap    56%                            22%


  • *Debt and operating leases as of 5/31/2010.
  • **Debt and operating leases as of 12/31/2010.

Under the proposed rules, a company would book an operating lease as a liability, and book an asset to reflect its ability to access the item being leased. But the asset would be less than the debt incurred, as it wouldn’t include financing expense or the residual value of the item when it is returned at the end of the lease. Similarly, rent expense on the income statement would be replaced with amortization and interest charges, which could reduce earnings, especially in the early years of the lease, though inflate them in later years. (Via: Barron’s Online, WSJ)

Click to comment

Leave a Reply

Your email address will not be published. Required fields are marked *

Are you looking for easy accounting tutorial? Established since 2007, hosts more than 1300 articles (still growing), and has helped millions accounting student, teacher, junior accountants and small business owners, worldwide.


Related pages

ppe impairmenteconomic order quantity formula exampleanalytical review procedures auditingledger confirmation letter formattimes interest earned tie ratiotroubled debt restructuring definitioncpa exam scores releaseaccounting for intangiblesconvert accrual to cashvaluation of ppesample cash flow statement indirect methodpurchase accounting accretionifrs statement of financial position exampleis the cpa exam all multiple choicearticle 11 regulation s-xfixed asset turnover ratio calculatorinsufficient funds letter to customerindirect vs direct cash flowcash disbursement definitionsample letter request bank balance confirmationstockholder equity formulathe maturity date of a note receivable isexamples of discontinued operationsproduction budget template excelwhat does cogs meancommon size balance sheet formulaforensic investigation auditdefine cost driversfeatures of absorption costingperpetual vs periodicuncollectible debtdouble declining balance depreciation calculatorfasb leasehold improvementsnnn lease definitionproperty plant and equipment ifrsenron special purpose entitiescar loan interest deductibleprior period adjustment journal entryprove it payroll testsales quantity variance formulafree promissory note template wordwhat are floatation costsdefinition of obsolete inventorycontingent assets ifrsinternal audit wikipercentage of sales method bad debtformat bank reconciliation statementhow to write a ledger bookinstallment note definitiondefinition of controllable costaccounting accrued expensecash flows from operating activities direct methodbank reconspercentage of completion method examplediminishing depreciation formulairs protest letterstraight-line method of depreciation calculatorgoodwill calculation in acquisitionbank rec formataccounts payable flowchartaccrued service revenue journal entryhow many years to depreciate equipmentnys underpayment penaltycpa exam sample questions and answerssample audit engagement letter cpaintangible assets amortizationthe first required step in the accounting cycle isinstallment basis of revenue recognitiongain on sale of investment journal entrybest capital budgeting methodadjusting prepaid expensesmaximizing shareholder wealthcalculating reducing balance depreciation