SAB 74 DISCLOSURE ANALYSIS FOR LEASE ACCOUNTING

[Pages:52]SAB 74 DISCLOSURE ANALYSIS FOR LEASE ACCOUNTING

Top 100 US Public Companies Ranked By Leasing Obligations

ASC 842 LEASE ACCOUNTING STANDARDS

TABLE OF CONTENTS

Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 SAB 74 Disclosures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Key Findings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4

Detailed Analysis . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Balance Sheet Impacts. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Income Statement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Cash Flow Statement. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Early Adoption. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Transition Method. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Practical Expedients. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Implementation Progress. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 Project Team. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Software Evaluation And Selection. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 Policies & Controls. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Lease Accounting Change . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12

SAB 74 Disclosures . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Additional References . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14 Top 100 Us Companies Ranked By Leasing Obligations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15

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EXECUTIVE SUMMARY

SAB 74 DISCLOSURES

As the implementation deadlines for ASC 842 grow closer, public filers will be required to include a discussion of the potential future impacts to their financial statements from the new lease accounting standards. SEC Staff Accounting Bulletin Topic 11.M (SAB 74) requires SEC filers to disclose the effects of accounting standards that have been announced but not yet adopted. The guidance from the bulletin encourages registrants to consider disclosing:

? A brief description of the new standard, the date that adoption is required, and the date that the registrant plans to adopt, if earlier.

? A discussion of the methods of adoption allowed by the standard and the method expected to be utilized by the registrant, if determined.

? A discussion of the impact that adoption of the standard is expected to have on the financial statements of the registrant, unless not known or reasonably estimable. In that case, a statement to that effect may be made.

Disclosure of the potential impact of other significant matters that the registrant believes might result from the adoption of the standard (such as technical violations of debt covenant agreements, planned or intended changes in business practices, etc.) is encouraged.

In an effort to assist the industry with accelerated adoption of the new lease accounting standards, LeaseAccelerator compiled 100 examples of SAB 74 disclosures from SEC registrants over the past 15 months. We focused on the top 100 US public companies as ranked by the total leasing obligations tabularized in the footnotes of annual filings. The source of the data was 10-Q and 10-K filings submitted between January 1, 2017 and March 31, 2018.

TOP 100 US PUBLIC COMPANIES RANKED BY LEASING OBLIGATIONS

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KEY FINDINGS

Early Adoption

With the revenue recognition standard (ASC 606) a number of companies including Alphabet, Microsoft, General Dynamics, Ford, and Raytheon were early adopters. Only one of the 100 companies analyzed, Microsoft, adopted the standards early. No other companies stated their intention to early adopt.

Transition Approach

At the time these disclosures were analyzed, the only available transition approach for lessees was the modified retrospective approach, so companies either said they would elect that approach or did not comment on the approach. However, a new transition approach was proposed in November 2017 and approved in March 2018. We expect companies to state their selection of transition method in their next disclosures.

Material Impacts to Balance Sheets

As expected, the new right-of-use assets and liabilities being added to balance sheets is expected to be the most material impact to financial statements. 76% of the Top 100 reported that there will be a material impact resulting from the transfer of most right-of-use assets and liabilities on to corporate balance sheets. Another 20% are still analyzing the potential impacts of the new standard.

Quantitative Impacts

Companies are still in the process of estimating the definitive size of their leasing portfolios under ASC 842. Only 8% provided quantitative estimates of the material impact to the balance sheet, which ranged from $1.2 billion to $13 billion.

Limited Impacts to Income Statement and Cash Flow Statements

28% of the Top 100 reported that there would not be a material impact to their income statement from ASC 842. Another 66% are still analyzing the impacts. 19% of the Top 100 reported there would be no impact to their cash flow statements and 64% are still analyzing the impact.

Implementation Progress

The level of information disclosed about the progress of implementation efforts is still relatively limited by most filers. Of the companies we analyzed, only 18% stated they are evaluating or implementing new policies and controls to support the standard. Similarly, amongst the filers we reviewed, only 18% stated they are evaluating or have selected a lease accounting software application. Only 13% indicated that a project team had been formed to address the new standard.

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SAB 74 DISCLOSURE ANALYSIS FOR LEASE ACCOUNTING (ASC 842)

DETAILED ANALYSIS

BALANCE SHEET IMPACTS

BALANCE SHEET IMPACTS

Balance Sheet Impacts will be Material As expected, the most material impact to financial

Not Material 2%

Not Stated 2%

statements cited by most filers is the new right-of-use

assets and liabilities being added to the balance sheets. 76% of the Top 100 reported that there will be a material impact resulting from the transfer

Still Evaluating

19%

of most right-of-use assets and lease liabilities onto

corporate balance sheets. Another 20% are still analyzing the potential impacts of the new standard.

Material Impact

73%

Goldman Sachs and Bank of America were the only

two companies in our sample set that indicated that the

impact would not be material. However, other financial

institutions such as CIT, JPMorgan & Chase ($10B),

and Citigroup ($5B) did indicate that the balance

sheet impact would be material, so there does not appear to be an industry-wide trend for commercial banks.

Companies are still in the process of estimating the definitive size of their leasing portfolios under ASC 842. Only 8% provided quantitative estimates of the material impact to the balance sheet, which ranged from $1.2 billion to $13 billion.

EXAMPLES OF DISCLOSURE COMMENTS RELATED TO BALANCE SHEETS

SEC REGISTRANT Apple

Walt Disney Southern

Charter Communications

EXCERPT OF DISCLOSURE

While the Company is currently evaluating the timing and impact of adopting ASU 201602, currently the Company anticipates recording lease assets and liabilities in excess of $9.6 billion on its Condensed Consolidated Balance Sheets, with no material impact to its Condensed Consolidated Statements of Operations. However, the ultimate impact of adopting ASU 2016-02 will depend on the Company's lease portfolio as of the adoption date.

As of September 30, 2017, the Company had an estimated $3.3 billion in undiscounted future minimum lease commitments.

Southern Company has substantially completed a detailed inventory and analysis of its leases. In terms of rental charges and duration of contracts, the most significant leases relate to cellular towers and PPAs where certain of Southern Company's subsidiaries are the lessee and to land and outdoor lighting where certain of Southern Company's subsidiaries are the lessor. The traditional electric operating companies are currently analyzing pole attachment agreements, and a lease determination has not been made at this time. While Southern Company has not yet determined the ultimate impact, adoption of ASU 2016-02 is expected to have a significant impact on Southern Company's balance sheet.

The Company expects its leases designated as operating leases in Note 20 will be reported on the consolidated balance sheets upon adoption. The Company is currently evaluating the impact to its consolidated financial statements as it relates to other embedded lease arrangements of the business.

TOP 100 US PUBLIC COMPANIES RANKED BY LEASING OBLIGATIONS

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INCOME STATEMENT

Under ASC 842, there is expected to be little impact to the income statement. Operating leases will still be presented on the same line-item on the income statement, the same as under the current standards, ASC 840. For finance leases, which replace capital leases under ASC 840, the interest and amortization will still be presented separately. As a result, we expect few of the remaining 66% still evaluating and the 6% that did not comment on the income statement impacts to find a material impact to the income statement.

CASH FLOW STATEMENT

The new standard requires leases to be reported as finance activities on the cash flow statement rather than as operating activities, which was required under ASC 840. However, this change is not expected to change net cash flows because the decrease in operating activities should result in an equal increase in finance activities. Therefore, we do not expect that many of the 64% of companies still evaluating or 18% that did not comment on cash flow statements to find that there is a material impact to their net cash flow statements.

EARLY ADOPTION

With the revenue recognition standard (ASC 606) a number of companies including Alphabet, Microsoft, General Dynamics, Ford, and Raytheon were early adopters. The lease accounting standard has very few early adopters thus far. Only one of the 100 companies analyzed, Microsoft, has early adopted.

TRANSITION METHOD

With other recent accounting changes, such as revenue recognition, much of the focus for SAB 74 disclosures was on the transition approach being adopted. However, until recently, only a modified retrospective approach was allowed under ASC 842. The modified retrospective method would have required companies to not only transition at the date of adoption, but also provide reports of their lease data under ASC 842 from the earliest comparative period to the effective date. For example, companies who will adopt on January 1, 2019 would have been required to report their lease data from January 1, 2017 to January 1, 2019 under both ASC 840 and ASC 842.

However, on March 7, 2018 FASB voted to offer a simpler transition method that eliminates the need for comparative reporting. We expect that many companies will choose this approach as it reduces the implementation burden for corporate accounting organizations. Several companies, including Walt Disney and Advance Auto Parts, referred to the proposal in their disclosures, though did not state whether they would elect the option if approved. We anticipate that now that the proposal has been approved, many SEC files will state which transition approach they will use in their next disclosures.

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SAB 74 DISCLOSURE ANALYSIS FOR LEASE ACCOUNTING (ASC 842)

PRACTICAL EXPEDIENTS

Amongst our sample set, only six companies indicated an intention to elect the practical expedients available under ASC 842. Another five companies indicated that they were investigating the practical expedients. However, most did not provide any commentary.

ADOPTING PRACTICAL EXPEDIENTS

100% 90% 80% 70% 60% 50% 40% 30% 20% 10% 0%

Decided to Adopt

Evaluating

No Comment

EXAMPLES OF DISCLOSURE COMMENTS RELATED TO PRACTICAL EXPEDIENTS

SEC REGISTRANT EXCERPT OF DISCLOSURE

Target

We will take advantage of the transition package of practical expedients permitted within the new standard, which among other things, allows us to carryforward the historical lease classification. In addition, we are electing the hindsight practical expedient to determine the reasonably certain lease term for existing leases. While lease classification will remain unchanged, hindsight will result in generally shorter accounting lease terms and useful lives of the corresponding leasehold improvements. We will make an accounting policy election that will keep leases with an initial term of 12 months or less off of the balance sheet and will result in recognizing those lease payments in the Consolidated Statements of Operations on a straight-line basis over the lease term.

Duke Energy

Upon adoption, Duke Energy expects to elect the practical expedients, which would require no reassessment of whether existing contracts are or contain leases as well as no reassessment of lease classification for existing leases. Additionally, we expect to adopt the optional transition practical expedient allowing the entity not to reassess the accounting for land easements that currently exist at the adoption of the lease standard on January 1, 2019.

Equinix

The Company plans to elect the practical expedient that it will not reassess whether any expired or existing contracts are or contain leases, the lease classification for any expired or existing leases or initial direct costs for any existing leases. The Company does not plan to elect the practical expedient to use hindsight in determining the lease term and in assessing impairment of right-of-use assets.

TOP 100 US PUBLIC COMPANIES RANKED BY LEASING OBLIGATIONS

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IMPLEMENTATION PROGRESS

The level of information disclosed about the progress of implementation efforts is still relatively limited by most filers. A significant work effort will be required to comply with the new lease accounting standards by most companies with portfolios in excess of $100M. Changes will be required to accounting systems, business processes, and financial controls. A cross-functional project team will need to be formed consisting of stakeholders that use the leased assets such as Real Estate, IT, and Operations as well as corporate functions that administer the leases such as Procurement, Corporate Treasury, and Accounts Payable.

The project team will need to devise a strategy for identifying all of the leasing contracts across the enterprise including categories such as real estate, IT, fleet, material handling, and other industry-specific assets. Once the population of leases is identified, the contracts for each will need to be identified in order to abstract the data necessary for accounting. Most companies will implement a new software application designed to perform the specialized lease accounting required for ASC 842. Once selected, the software application will need to be tested for functionality, integrated with other financial systems, and rolled out with training to end users.

EXAMPLES OF DISCLOSURE COMMENTS RELATED TO IMPLEMENTATION

SEC REGISTRANT AutoZone

O'Reilly Automotive

Kroger Dollar General

EXCERPT OF DISCLOSURE

The Company established a cross-functional implementation team to evaluate and identify the impact of ASU 2016-02 on the Company's financial position, results of operations and cash flows. Based on the preliminary work completed, the Company is considering the possible implications of the new standard, including the discount rate to be used in valuing new and existing leases, the treatment of existing favorable and unfavorable lease agreements acquired in connection with previous acquisitions, procedural and operational changes that may be necessary to comply with the provisions of the guidance and all applicable financial statement disclosures required by the new guidance. The Company is also in the process of identifying changes to its business processes, systems and controls to support adoption of the new standard.

We have established a task force, composed of multiple functional groups inside of the Company, which is currently in the process of evaluating critical components of this new guidance and the potential impact of the guidance on our financial position, results of operations and cash flows. Based on the preliminary work completed, we are considering the potential implications of the new standard on determining the discount rate to be used in valuing new and existing leases, the treatment of existing favorable and unfavorable lease agreements acquired in connection with previous acquisitions, procedural and operational changes that may be necessary to comply with the provisions of the guidance and all applicable financial statement disclosures required by the guidance, all of which are areas that could potentially be impacted by adoption of the guidance.

This evaluation process includes reviewing all forms of leases, performing a completeness assessment over the lease population, analyzing the practical expedients and assessing opportunities to make certain changes to the Company's lease accounting information technology system in order to determine the best implementation strategy.

Specifically, the Company has formed a project team that is developing test plans for its lease accounting system, identifying and evaluating existing contracts for embedded leases, and discussing implementation plans with its lease accounting software vendor, among other activities.

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SAB 74 DISCLOSURE ANALYSIS FOR LEASE ACCOUNTING (ASC 842)

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