Under the whole asset approach to accounting for leases, the fair value of the asset would be capitalized in the lessee’s books, effectively eliminating any off balance sheet financing at all. The ‘right to use’ approach, however, depending on the model adopted, may still retain some off balance sheet features. Under one ‘right to use’ model, the lessee’s obligation to pay would be put on the balance sheet, along with the fair value of any purchase option, potentially putting the entire asset on the books (along with creating a derivative accounting nightmare for our industry).
Fortunately, it looks like the direction the debate is heading is to adopt what is, essentially, capital lease accounting for most leases (note the “most” comment). Under this ‘right to use’ model, the residual would still remain off the balance sheet, which, for some collateral types such as aircraft, can be significant. There also has been some discussion of exempting true usage leases, such as computers, power per seat, click contracts, etc., and, of course, the perennial favorite, small ticket leases. I can see it now – that $50 million deal you were working on? Well, it now has 5,000 schedules.
Other topics at the working group meeting raised the possibility of some interesting structuring opportunities being created. For instance, when leases with a right to terminate were discussed, the preliminary conclusion drawn was that the lease term, for capitalization purposes, would only be the term through the termination date. Judicious use of termination options in the structure would allow the lessor to help minimize the amount capitalized by the customer, thereby, particularly in conjunction with the residual, creating a form of off balance sheet financing.
Of most interest, however, was the comment by Warren McGregor, the grand poobah of lease capitalization, that a more realistic date for a new lease accounting standard would be 2012. You’ve gotta love that. Let’s not get complacent, though. We do need to begin developing new products and strategies to effectively deal with what is, eventually, coming.
Very interesting article.
Nick
Trident Leasing
http://www.tridentleasingcorp.com
Posted by: Nick | May 17, 2007 9:11 AM | Permalink to Comment