ASC 842 Part II: 7 Steps to Complying With the New Lease Standard
This is the second in a two-part series on the new lease accounting standard, ASC 842. It’s based on a webinar featuring Mike Jerman of Hollywell Partners and Leasecake CEO Taj Adhav. Click here to read the first post or here for a webinar replay.
No matter the size of the company, there are a series of steps that are pretty consistent for anyone adopting the new standard:
- Create a lease inventory
- Review current system and tech needs
- Sample agreement testing
- Embedded lease search
- Train accounting management and leasing team
- Disclosures standardized and provided to management
- Adoption
Granted, the first step of creating a lease inventory is more time-consuming when you have hundreds or thousands of leases. However, everyone needs to go through the same process of getting all leases in the same place and having them reviewed by the same team.
As part of creating this inventory, you’ll have a standardized set of inputs:
- Lessor
- Lessee
- Tenant improvement allowances
- Term
- Rent schedule
- Renewal options
- Cost of debt you’re going to apply
Lease inventory is a crucial initial step because you want to make sure you’re not revisiting it later on when you start making entries.
Tech Needs: If you’re a CFO and your CPAs don’t want to do all this in Excel, then you can use lease-management software designed to help compliance.
“That’s what Leasecake is here for,” said Mike German with Hollywell Partners. “They have built a very nice ASC 842 system for about 95 to 99 percent of all current leases out there. I think it would be a nice alternative to any of the bigger boys or doing it yourself.”
Sample Agreement Testing: Once you’ve created a lease inventory and selected a platform, it’s important to test with a set of 25 to 30 key assumptions and critical pieces from that inventory. Take the data from leases back to your inventory and your inventory back to leases — to make sure you’re in really good shape.
Embedded Leases: This is specific to accountants and anyone with an extensive lease portfolio that’s not standardized. There is the potential that you have the right of an asset embedded in another contract.
“If you have a number of non-standardized leases or contracts with customers in which you’ve given any control of an asset, either as a freebie or as a vendor, it can generate an embedded lease within that contract,” Mike said.
It’s an esoteric situation, but it does happen, especially in big operations. So if you think you might be in that situation, it’s best to seek guidance from an expert.
Training: Think about all the people or departments involved:
- Operations
- C-suite
- Managers
- Customer service
- And, of course, the accountants
You’ll want to make sure everyone across the board knows what you’re doing, where your leases come from, how they originate, what templates are current. From there, ensure the financials are up to date, and you’ve got adequate disclosures for adoption. Then, after checking all those boxes, you can go ahead and start plugging numbers through and getting them in your financials.
Disclosures: Income statements are accompanied by a set of footnotes that provide additional information to help analysts understand how a company arrived at its numbers. Those footnotes can be hundreds of pages long as in an SEC document or as little as five to 10 pages in a private set of financial statements.
With the adoption of the new leasing standard, there will be different numbers in the current year than there were in the prior year. The footnotes will explain all that. So it’s essential to make sure those disclosures are assembled, standardized, easy to fill in, easy to track — and then given to management to make sure they’re on board with the disclosure.
Adoption: When everything is standardized and tested, you should be able to plug and play — even when new leases come in. If you give the right general ledger account numbers to the system, you should be able to just pull the journal entries, review, and post.