1. ARTICLE | May | 2013 Abstract: The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have jointly revised the Accounting standards for leasing procurement, which will be effective for enterprises beginning in 2017 and required to be incorporated in accounting records from 2014. This article will discuss key implications of the revised regulations on enterprise IT procurement strategy. Impact of revised IASB/FASB regulations on IT Equipment Leasing Copyright Beroe Inc., 2013. All Rights Reserved Author Rakshana B | Research Analyst

2. Overview Release of Revised Exposure Draft for Lease Accounting The International Accounting Standards Board (IASB) and the Financial Accounting Standards Board (FASB) have jointly devised new guidelines for leasing to improve the financial visibility of the company to investors. After the release of the first draft in 2010, the revised Exposure Draft was postponed throughout 2012 and was finally released in Q2 2013. IT assets on lease are generally recognized as a capital/finance lease or an operational lease. In a capital lease, the equipment is recognized as an asset and liability in the financial statements, whereas in an operational lease the assets are usually relegated to the footnote of the financial statements. Historically, operational leases have been preferred because the company can account for the cost of the equipment as an operational expense. However, with the release of the revised standards, all leases will henceforth be capitalized. The impact areas on IT procurement are: Increase in lease cost heads in a Buy vs. Lease analysis Negating the advantage of off-balance sheet accounting of leasing which was a driver in influencing the leasing procurement decision Low High Product Obsolescence Lease Duration HighLow Low High Operational Lease Computing Hardware Telecom Equipment Printer Equipment Servers Network Equipment Impact on IT Equipment Leasing: IT equipment procurement will be highly impacted by the revised regulations as they are primarily funded using the operating lease model due to high technological obsolescence and unprofitable buy-out options as demonstrated in Fig.1. High Medium LowImpact Capital Lease Fig.1. Comparative Study of Impact on Lease Types Medical Equipment Aero planes Real Estate Fleet Leasing Construction Equipment IT and Office Equipment Impact on IT Leasing by Equipment Off-Balance Sheet accounting of assets and liabilities will no longer be a driver to adopt IT equipment leasing. Nearly 80% of IT equipment leasing is on PCs (Computing hardware), due to higher volume of PC procurement over other infrastructure equipment. Steve Bossert, Director of IT Asset Management Group 3. Higher volumes involved in computing hardware sourcing, in comparison to other IT equipment, usually results in the adoption of a leasing model, primarily an operational lease, due to economic viability through economies of scale. Based on the new regulations, combined with the evolution of the supply landscape and technological enhancements, the IT hardware equipment would be procured in the following manner. IT Equipment Procurement Model Lease Is lease still economically profitable over buying?* Procurement Model Direct Purchase Procurement Model Infrastructure as a service Procurement Model - Hybrid Managed Print Services Direct Purchase Yes Network EquipmentServers Telecom EquipmentComputing Hardware Printer Equipment No Fig.2. Procurement Model Decision Making Criteria and Opportunities If you have the systems, processes and practices in place to comply with the new standards, then your organization can continue to lease and focus on the economic benefits of leasing. Michael J. Keeler, CEO of LeaseAccelerator. The revised regulations will require the buyers to reassess the Buy vs. Lease analysis to verify if the increase in lease cost heads proves unprofitable over the contract duration. This will drive the adoption of alternative optimal cost procurement models for IT hardware for which the decision making criteria and opportunities are represented in Fig.2. *Assuming that the accounting practices comply with the new standards to complement the adoption of leasing model Buyers can look to outsource lease services which include software and expert assistance. For example, LeaseAccelerator is a cloud based accounting software which helps lessees in streamlining portfolio management, accounting and reporting as per the new standards. Some of the major clients currently adopting LeaseAccelerator are NetApp, Cummins and Eaton. 4. As per the revised accounting, the lessees can choose from two major leasing models: Right of Use Lease model and Short Term Lease model. The Right of Use model will entitle the lessee to include the assets as a Right-Of-Use (ROU) asset and the liabilities as lease liabilities on the balance sheet, thereby essentially capitalizing all leases. The short term lease model allows the lessee to avail a maximum period of 12 months for the lease (including renewal). The short term lease model, which can be classified as an operational lease, can be used for temporary replacement of IT hardware or provision for a temporary worker on an ad-hoc basis. Effect of Revised Regulations: To enhance the leasing and financial visibility of the company, the revised regulations mandate that all equipment leases should be considered as capital leases based on the following standards: Asset ownership and risk is transferred to the lessee at the end of the lease term The lease has a bargain purchase option The asset is leased for more than 75% of the useful life of the asset The minimum lease payment is 90% more than the current fair market value of the asset Accounting Ratios that will be modified Debt/Equity Ratio Return On Assets Leasing Model Types Capital Lease Operating Lease Right of Use Model Short Term Lease Current State Future State Fig.3. Leasing Model Types Current and Future State After the effective date, enterprises will be required to stay in compliance with not just FASB and IASB but also external regulations such as Sarbanes-Oxley Act. 5. Impact Areas: The new standard will require a revisal of accounting processes for those businesses using operating leases. This will impact the administrative complexities resulting in: Having to track the deferred income tax which was not required earlier for operating leases Necessity to separate the lease and non-lease components(such as maintenance, insurance etc.,) Having to track additional data elements from the lease, such as asset depreciation and economic incentives for lease renewal like bargain renewal rates, borrowing rates etc., on a quarterly basis In a decentralized leasing environment, the revised regulations will result in increased complexity in accounting for operating leases from different sources and aligning it to the new regulatory standards. This will increase the administrative costs by additional expenditures on accounting automation software and expertise. The direct costs such as monthly lease payments and end of lease purchase (bargain purchase or one dollar purchase options) will not be impacted by the revised accounting standards. However, indirect cost component of tax payments will be revised due to the capitalization of leases. Implementation Timeline The effective date of implementation for businesses is expected to be between three to four years post the issuance of the final exposure draft (ED). With the release of the revised ED in May 2013 and the expected final ED in early 2014, the effective date of implementation could be as soon as the beginning of 2017. First Exposure Draft Issued in 2010 Revised Exposure Draft in 2013 Final Exposure Draft 2014 Effective Date of Implementation 2017* 6. Conclusion - Action Plan for Buyers: All lessees will be required to conform to the revised accounting standards beginning in 2014, as it is required to show a 3 year accounting record prior to the effective date. Although the revised regulation will negate the advantage of off-balance sheet accounting and increase the administrative complexities, leasing can still be a profitable sourcing decision provided that buyers have the accounting practices in place to comply with the new standards and a well-structured buy vs. lease analysis. Keywords Used FASB, IASB, Revised exposure draft, IT Equipment Lease, Right of Use Model, Tax Payment References http://lesseeadvocate.com/newsletter/?newsletter=Coming%20Lease%20Accounting%20Changes http://lesseeadvocate.com/2011/07/ready-for-the-ifrs-lease-accounting-changes-fear-not-%E2%80%93-new-whitepaper- can-help-you-prepare/#more-328 http://www3.cfo.com/article/2012/7/gaap-ifrs_fasb-iasb-lease-accounting-equipment-leases http://www.fasb.org/jsp/FASB/FASBContent_C/ProjectUpdatePage&cid=900000011123#decisions http://www.kpmg.com/uk/en/issuesandinsights/articlespublications/pages/draft-leasing-standard-fasb-leasing-project.aspx http://www.pwc.com/us/en/cfodirect/issues/leases/index.jhtml The lease vs. buy decision is an essential calculation that buyers should make to compare lease and buy cost heads over a period of 3 years. It includes current and future costs. The decision to adopt a lease will also be influenced by the internal policy of the company to lease and the current borrowing rate. - Erik Grissell Global Indirect Sourcing at Nortek