Proposal to Reclassify Equipment Leases Seen as Tough Burden on Small Businesses

This story appears in the Aug. 3 print edition of Transport Topics.

Finance and leasing industry officials said a proposal to reclassify equipment leases as a form of debt or asset, rather than an expense, would be difficult and costly for most companies to comply with.

In March, the Financial Accounting Standards Board, along with the International Accounting Standards Board, proposed the change, with public comment to be accepted until July 17 (click here for previous story).

“We find that the lease accounting model as proposed is unduly complex and will impose a compliance burden on lessees that will not result in a significant improvement in the quality or reliability of financial information,” said Kenneth Bentsen Jr., president of the Equipment Leasing and Finance Association.

“The model seems to be overly concerned with preventing potential abuse, rather than accurately reporting the economic aspects of leasing transactions,” Bentsen said.

Leases account for more than 25% of all financing for industrial machinery, transportation equipment, computer software and other items in the United States, according to Jeffrey Liebenthal, president of Trilogy Leasing Co. in Cranbury, N.J.

“This financing would disappear,” he said, “and would result in an anticipated reduction in [equipment] acquisitions of over $100 billion.”

The reduction in purchases would result in the loss of tens of thousands of jobs in the leasing and manufacturing sectors, Liebenthal said, and put additional strain on the U.S. economy.

The privately run standards-setting boards said changes are necessary to help investors and other users of financial documents better understand the benefits and liabilities associated with the use of leasing.

After they have reviewed comments, FASB/IASB officials are expected to release a final proposal in the second quarter of 2010, with implementation in mid-2011.

Companies financed $17.9 billion worth of transportation equipment, including $7.3 billion to acquire trucks and trailers, out of total new business volume of $100.3 billion in 2008, according to Ralph Petta, vice president of research and industry services for ELFA. The figures are based on a survey of 109 ELFA member companies.

Petta said the proposed changes to the accounting rules likely would have the largest effect on leases that contain variable cost components such as mileage or time of use.

Under the proposed changes, lessors would have to estimate those contingent fees and make periodic adjustments on the books, something they “don’t have to do now” and that, Petta said, “involves significant guesswork.”

The proposals also do not take into account the fact that leases are oftentimes bundled with other services, critics said.

A typical full-service lease, for example, includes vehicle maintenance, taxes, insurance and warranty services that may need to be accounted for in a different way from the right to use the asset, said consulting firm Grant Thornton LLP’s Kenneth Sharp, global leader assurance services, and John Archambault, national managing partner of professional standards.

Jim Evans, CEO of Accord Capital Group, said the change would make it difficult for companies to price their services.

“The value of operating leases is the ability to charge the expense as it occurred. This is a form of margin control for small businesses,” he said.

A representative of the Truck Renting and Leasing Association said that while the group supports the idea of assigning a value to the right-of-use, there should be an exemption for operating leases with terms of less than 60 months and less than $250,000 in equipment costs.

“The vast majority of truck lessees are small- to medium-size companies that are unlikely to have the accounting resources to adapt to the significant complex changes and reporting requirements proposed in the [FASB/IASB] discussion paper,” said Thomas James, senior vice president of government relations.

However, firms should disclose more information about leases, James said, including the present value of rents, the weighted average incremental borrowing rate and estimated rents to replace expiring leases.

A spokesman for Xtra Lease said the accounting-rule proposal contains “too many nuances” to accurately determine its effect on trailer leasing yet.

But Paul Huck, chief financial officer of Air Products, said the rule changes could force the company to record its “take-or-pay” gas supply contracts as leases. He urged the boards not to make changes until there is a “fundamental reconsideration of what constitutes a lease.”

Huck also said that short-term leases should be excluded from the new rule and that a “bright line” be maintained between capital and operating leases.

Air Products uses operating leases for real estate and distribution equipment and capital leases for machinery and equipment. The company ranks No. 54 on the Transport Topics Top 100 Private Carriers list.

Douglas Shuma, senior vice president and controller for Telephone and Data Systems and chief accounting officer of TDS subsidiary U.S. Cellular, said the changes would have the effect of reducing the company’s earnings and cash flow. He also said that disclosure should “distinguish between the impact of depreciation expense related to owned assets and depreciation expense for leased assets.”

Shuma also argued that the rules apply to property, plant and equipment and should not include such things as service agreements or other intangible assets.