Lease Accounting and the Corporate “Cash Mirage” – How Corporations Hide Debt
by ilene - August 20th, 2010 1:28 pm
Lease Accounting and the Corporate "Cash Mirage" – How Corporations Hide Debt
Courtesy of Mish
In new accounting rules proposed by key regulators, businesses may have to start putting leases on their balance sheets. Corporations are howling already because many are up against debt limits right now.
The Economist discusses the "shocking new accounting rules" in You gonna buy that?
WHEN you lease something—a boat, a warehouse, a machine for making ball-bearings—you agree to pay for it bit by bit over time. So it is like incurring a debt, say the International Accounting Standards Board (IASB) and America’s Financial Accounting Standards Board (FASB). Therefore, it should be on your balance-sheet. This new rule, proposed on August 17th by the two regulators, has shocked companies everywhere. It is up for public comment until December, but could be enacted as soon as June next year.
A survey by PricewaterhouseCoopers, an accounting firm, found that it would add about 58% to the average company’s interest-bearing debt. Not only new leases but also existing ones would immediately be subject to the new rules. On the other hand, since rents will no longer be a running expense, operating earnings could see a bump upwards. But since the downturn, many companies are close to their maximum debt limits, and the new rules could push them over the edge. Small wonder they are howling.
The new rules’ effects will vary widely. Retailers, who often lease prime property, will take a beating. Airlines, which seldom own their jets, will suffer too. Some businesses, such as utilities, will barely notice. But others will see their apparent return on capital plunge. Many firms will see their debt-to-equity ratio rise and their ability to borrow fall.
How much Corporate Debt Is There?
I picked this story up from Bruce Krasting on ZeroHedge who asks How Much Debt Does the S&P 500 Have?
The list of companies with Operating Leases is endless. I would imagine that most of the S&P 500 will be impacted one way or the other.
Watch for a big fight over this issue. Look for GE to be the biggest opponent to any changes. I think they have the most to lose in this.
Off the Radar
This is one of those off-the-radar kinds of things, very easy to miss. It also sheds a new light on the question Are Corporations Sitting on…