By Michael Rapoport
Some of America's best-known companies--names such as AT&T
Inc., CVS Health Corp. and Delta Air Lines Inc.--likely will soon
have to effectively boost the debt they report on their balance
sheets by tens of billions of dollars. The total possible impact
for all companies: as much as $2 trillion.
Within a few years, companies may have to add to their books the
cost of many leases for real estate, aircraft and other items that
aren't already carried there. U.S. rule makers are set to vote
Wednesday on whether to approve in principle long-awaited new rules
requiring companies to make that addition, though the move wouldn't
take effect until at least 2018.
If approved, as many observers expect, that change could
dramatically boost the reported leverage for retailers, restaurant
chains, airlines, package-delivery companies and other companies
that use leases heavily. Companies must already disclose their
lease obligations, but it is done in the footnotes to their
financial statements; they aren't included in the balance-sheet
numbers to which investors pay the most attention.
The proposed move by the Financial Accounting Standards Board
could help investors more clearly see the true health of companies
that owe a lot of money through lease commitments but currently
don't have to reflect those commitments in their balance-sheet
numbers, said FASB Chairman Russell Golden. It "will give
investors, lenders and others a more accurate picture of the
financial condition of the companies to which they provide
capital."
The change won't create any new obligations for companies, and
it isn't expected to drastically change companies' earnings or book
value. But it could change some financial ratios, such as return on
assets. That is because companies will be adding assets to their
balance sheets as well as obligations to reflect the impact of the
leases. As assets rise, the return as a percentage of those assets
would decline.
The proposed rules have been in the works for a decade, and are
"very much needed," said J. Edward Ketz, an associate professor of
accounting at Penn State University. Companies have often
structured the terms of their leases to enable them to keep from
officially counting many leases on their books, regulators and
critics have said.
Ratings firms and investors who closely watch balance sheets
have long adjusted their reading of corporate numbers to take into
account companies' off-the-books lease obligations. But the average
small investor could be in for a surprise when companies start
officially counting billions of dollars in leases on their balance
sheet, Mr. Ketz said.
"You have sophisticated people, knowledgeable people in the area
who have been doing it. The small investors do not," he said.
AT&T had $31 billion in operating-lease obligations--those
not currently carried on the balance sheet--as of the end of 2014,
according to its latest annual report. Adding those obligations to
the balance sheet would significantly increase its liabilities; the
company has long-term debt of $76 billion.
An AT&T spokesman noted the company's leases are already
disclosed in its annual report's footnotes, and he said the new
rule would simply "change the presentation of this information
without giving investors and analysts significant new information
beyond what we already provide."
CVS, which leases real estate for its thousands of pharmacies,
had $27.3 billion in operating-lease obligations as of the end of
2014, compared with $11.7 billion in long-term debt. Delta, which
leases aircraft, had $12.7 billion, compared with $8.6 billion in
long-term debt.
A CVS spokeswoman said that while the new rule could affect a
company's financial statements, "it does not affect a company's
creditworthiness or underlying cash flow." Delta didn't have any
immediate comment.
AT&T and Delta have criticized the lease-accounting proposal
in comment letters to the FASB in the past, and the FASB has faced
resistance from others over lease accounting as well. In 2012, the
U.S. Chamber of Commerce and other business groups sponsored a
study contending that proposed lease-accounting changes could lead
to major job losses.
Any time the balance sheet is being changed so much, "there's
going to be some knock-on economic effects," said Tom Quaadman of
the Chamber's Center for Capital Markets Competitiveness.
Bringing leases onto corporate balance sheets could increase
liabilities of U.S. public companies by about $1.5 trillion,
according to the Center. IHS Global Insight estimated in a 2011
study conducted for the Equipment Leasing & Finance Foundation
that the number could be $2 trillion.
But Mr. Quaadman and other critics say the FASB has been
responsive to their concerns, and has scrapped other proposed
changes to lease accounting that would have had additional effects.
Compared with its initial proposals, the anticipated final rule is
"much improved for the industry from where it was," said Ralph
Petta, chief operating officer of the Equipment Leasing and Finance
Association, a trade group.
One other issue some critics fear: Adding the lease obligations
could trigger violations of debt covenants. But the FASB notes the
long lead time until the new rule would take effect means it is
likely that many such covenants will mature or be updated before it
becomes an issue. And technically, the FASB says, leases will be
considered "operating obligations" rather than debt.
The effort to overhaul lease-accounting rules dates to 2005,
when the Securities and Exchange Commission called on the FASB to
do so. The rules haven't had a significant revamp since 1976.
The process has gone on long enough for David Tweedie--former
chairman of the International Accounting Standards Board, the
FASB's global counterpart--to quip that before he dies, he wants to
fly in a plane that is carried on its airline's balance sheet.
Emily Chasan contributed to this article.
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(END) Dow Jones Newswires
November 10, 2015 19:28 ET (00:28 GMT)
Copyright (c) 2015 Dow Jones & Company, Inc.
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