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COMMERCIAL LEASES CHANGING TO A LIABILITY ON THE BALANCE SHEET IN 2019

COMMERCIAL LEASES CHANGING TO A LIABILITY ON THE BALANCE SHEET IN 2019

Presented by: Forrest Blake | Vice President | NAI Capital | 818-933-2365 | fblake@NAIcaptial.com | Lic # 01054174

Anyone who signs more than a 12-month lease and is in an executive position needs to read this and future articles on this subject. This change will have a dramatic effect on your financial statements. Tenant’s must book there lease obligation as a liability on balance sheet. I wouldn’t sign a new lease without understanding the impacts of these new requirements.

The first time I wrote about this was in 2012, and their was fear of what this could possibly mean, at the time it was proposed. Now the fear has become a reality! Awareness is the first step to finding a solution.

I am committed to continuing as a leading subject matter expert in this area and will write articles to provide information that will help tenants navigate this difficult new accounting standard.

In 2005, the U.S. Securities and Exchange Commission asked the Franchise Accounting Standards Board (FASB) to craft new rules after realizing that “approximately $1.25 trillion in non-cancelable future cash obligations committed under operating leases” were still being disclosed in financial statement notes rather than in the actual balance sheets. The FASB’s new standard on leases ends most distinctions between capital leases on equipment and operating leases such on commercial real estate.

The new FASB lease standard takes a dramatic change in approach; for leases beginning after Dec. 15, 2019 for public companies and Dec. 15, 2020 for privately held companies. Any lease longer than 12 months will be recorded on the lessee’s balance sheet as both an asset and a liability.

A liability for a lease obligation which is measured at the present value of the future lease payments not yet paid over the lease term. An asset for its right to use the underlying asset equal to the lease liability, adjusted for lease payments made at or before lease commencement, lease incentives, and any initial direct costs.

Operating Lease vs Capital Lease

The disclosures or accounting for operating leases could have a significant impact on the financial statements of a company. Covenants that are meeting certain ratios to obtain funds from lending institutions might be strained due to percentages calculating below the minimum level. The ramifications of the recommended changes could put our country back into a financial turmoil.

In 2019 and 2020 when companies are forced to make the change, I hope the FASB, IFRS, Wall Street, investors, and banks can come together with new underwriting and investment criteria that will dilute the recommendation’s financial impact. We will need to set new higher ratios for liquidity measurements, profitability indicators, debt, fixed asset and investment valuation. In the interim, we all must start thinking together about how the impending changes will impact companies and create a strategy to determine the actions they need to take to minimize the disruption.

Companies who are signing leases in the next 2 to 3 years should sharpen their pencils and analyze the best way to solve this impending issue. Opportunities exist to solve every problem if explored intently. The FASB changes may signify reverting to a time when companies purchase their occupied buildings rather than leasing. If there is no off-balance sheet reason to lease property, why not own and receive the stable equity appreciation created by your own occupancy. In looking at the financials of many Fortune 500 companies, they are holding a substantial amount of cash on their balance sheet.

Is now the time to invest in owning commercial property? If not, please give me a call to discuss your leasing options under these new standards.

Forrest Blake | Senior Vice President

SVN | Commercial – DTLA

800 South Figueroa Street, Suite 925, Los Angeles, CA 90017

Phone 213.618.4196 | Mobile 310.850.2381

forrest.blake@svn.com | www.svn.com

CalDRE# 01054174

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