Donnerstag, August 19, 2010

Accountants, Transparency and Sheer Idiocy...

There are days when I come close to despair.

I've just read about how the accountants want to handle leasing.

Leasing is an attractive business because it gives users the usage of a piece of equipment without having to add it to their capital stock, returning it to the owner when the leasing period is over. It's not exactly rent for that piece of equipment, but rather the customer pays for the depreciation of an asset plus costs plus a profit for the owner of the asset.

As such, it belong to the capital stock of the owner and is a cost for the user. The owner takes it off-balance, as it is part of capital stock and can be taken off-balance, while the user never puts in his balance beyond the simple position in the cost sheet.


Both user and owner are supposed to put leases into their balance sheets "to better judge the potential risks".

Insanity: the effect that this has will be wide-spread and, I sincerely hope, unintended.

Basically, the new rules will require leasing companies to carry the remaining time period of the lease as a debt position, with a review of this debt position (since it is a position that will be carried out in the future) every 3 months as to the ability of their customers to pay their leasing costs. For the leasing customer, the sum that has to be paid yet for the leased good must also enter into the balance sheet because it is a future cost that must be included, as a leasing obligation.

Ye gods.

While this sounds like a trivial thing, it is most assuredly not: it will mean that companies which use leasing extensively will see a significant increase in their debt, even though their debt has not, actually and really, changed. Sudden increases in debt levels, however, trigger bank reviews of customer creditworthiness, usually leading to higher costs due to increased risks. Under normal conditions, this is true: however, in reality, nothing has changed.


So what, you say? It's just that in 2013, when this becomes the rule for accountants, the balance sheets of thousands of companies will take a turn for the worse, We're not talking a couple of bucks, but rather an increase of around 25%: there are companies, such as airlines, which will then see their debt skyrocket, as they are heavy users of leased airplanes and equipment. What do I mean by skyrocket?

Well, Lufthansa, for one, had €2.5bn in net debt on its books in 2009, with an additional net leasing obligations of €2.251bn. This new rule means that Lufthansa has then not €2.5bn in debt, but rather €4.751bn, an increase of no less than 90%.

This means, not only for Lufthansa and other airlines, but in general, that in 2013 there would be a significant worsening of cash flows, as leased - not owned, but leased - equipment, buildings and the like have to be included in the balance sheet, even though these are a pure cost and not a capital acquisition.

This could well mean the virtually complete loss of leasing as an alternative to capital spending, meaning not only the loss of jobs in the leasing industry, but also the loss of flexibility in planning, as while today you can expand capacity by leasing something for a short period of time, in the future you'll have to buy the equipment and depreciate it yourself, tying up capital.

It's also sheer stupidity for the real world, since you are worsening the financial shape of a company without them actually doing anything: given the fact that this will hit business in 2013, about when the upswing will finally have reached everyone, it's like tossing a wooden shoe into machinery.

Otherwise called sabotage.

The accountants are clearly out of control. First "mark to market" which destroyed the financial industry during a downswing, now this. Can anyone please tell me what motivates the accountants to make such changes?

Not what they say motivates them (to have a better picture of "true" liabilities and obligations), but what really motivates them? To have power over the economy and force others to do as they please?

David Tweedle, the head of the IASB, once said he'd like to sit in an airplane that actually appeared on the balance sheets of the airline.

What he is going to get instead is no airline, since it can't afford to tie up its capital in something more properly leased. The major US airlines have failed to be profitable because they own their own aircraft: Ryan Air, on the other hand, leases all of its aircraft and is profitable.

I guess he wants a level playing field where nobody makes any money except the accountants.


Ed hat gesagt…

Hi John, you have confused me with this post. I have to admit that it is rather easy to confuse me regarding accountancy, as I am a scientist and accountancy seems to be more of an art :-)

Sudden increases in debt levels, however, trigger bank reviews of customer creditworthiness, usually leading to higher costs due to increased risks. Under normal conditions, this is true: however, in reality, nothing has changed.

Taking your example of Lufthansa, what is the likely consequence of this rule change?
1. If the banks etc that lent Lufthansa money had correctly assessed its business, including its obligations on leases, then nothing should change because, as you noted, nothing has really changed.
2. If the banks etc that lent Lufthansa money had not considered the lease obligations because they were not on the balance sheet, then they were underpricing the risk of lending to Lufthansa, thus it is highly desirable that this mistake is corrected ASAP and the terms under which Lufthansa borrows money are corrected to better reflect reality.

If case 1 above applies, then this rule doesn't cause any real problem. If case 2 applies, then it demonstrates that $billion decisions are being made on the basis of a handful of artificially defined numbers and not on the basis of a deep knowledge and understanding of the reality of the business concerned, in which case we have much more serious problems!

I have no idea how or where exactly in a company's accounts leases should be accounted for, although I do think that the owner being able to take it off-balance sounds a bit bizarre.

John F. Opie hat gesagt…

Leasing should be a flow-through cost, simply part of the cost of doing business. Sure, it's an obligation that you have to budget for, but fundamentally it should be the same as paying rent.

The new rules, as far as I understand them, mean that you have to act as if the lease was an asset, rather than a cost.

And to make matters worse (and perhaps I didn't explain this well, mea culpa), the leasing companies may no longer take the capital costs off their books: normally, a leasing company uses an external instrument to finance an airplane, usually in the form of a close-end fund with external investors. The leasing company then, basically, uses the asset, but doesn't pay for it (the investors have done this) as a capital investment, hence their ability to take it off their balance sheet.

The new rules basically take this away from the leasing companies.

In any case, it is a shift from treating leasing as a cost to treating leasing as capital. This has large implications for corporate accounting that, while providing accountants a better understanding of capital flows, does so at the cost of final balances.

It's as if you were renting an apartment and the law said, basically, that you were liable for property taxes because you're the one using the apartment. Your landlord should be paying that, not you. While this could be factored into a rental price, it still is screwy that you're the one paying and not your landlord (especially considering that he's passing on one of his costs to you, even though you don't own!)

For me, accountancy is increasingly dominated by those who want to make it an art, rather than a simple mathematical exercise, all in the name of "greater transparency" and some sense of wanting to make their lives simpler at the cost of greater work elsewhere...