A new federal revenue lease accounting rule is going to have an impact on many parts of a business operation. Internal controls and processes for recording leases will need to be updated. While much of the responsibility for complying falls upon a company’s corporate finance department, no one has a better idea on the nature and status of a TV station’s lease agreements than its local management team. Be sure to reach out to your finance team and discuss what will be required from your station.
If you notice members of your finance team mumbling to themselves, please be patient. The regulatory elves have not been kind to them in recent years. In addition to the uncertainty accompanying federal tax changes, they are dealing with the certainty of new revenue recognition rules — the first wave of companies are implementing them now — and a new standard for lease accounting.
I touched on the new revenue reporting rules in a Front Office column that posted earlier this year. The lease accounting regulations will begin to be effective in exactly one year. But because they include virtually all of a company’s current and future lease agreements, they are already getting lots of attention. Understanding these new rules will be particularly important for stations that are participating in channel-sharing agreements.
FASB, the Financial Accounting Standards Board, issued the new lease accounting standard in February 2016. It requires lessees to recognize on the balance sheet assets and liabilities created by leases with terms of more than 12 months. In response to challenges flagged by organizations as they have been preparing for the new rules, FASB recently announced a few simplifications to the rule intended to help with its implementation.
Earlier this fall, MFM asked Chris Morgan, an audit partner at Grant Thornton LLP and leader of the firm’s national telecom sector, to describe how the new lease standard is likely to affect media companies. You can find his “Last Word” summary in the November-December issue of MFM’s The Financial Manager magazine, which will be available for downloading on our website for several more weeks.
Simply stated, the current practice is to treat leases as a monthly expense. They are not recognized on the balance sheet, the financial document which presents a company’s assets and liabilities.
Under the new standard, the majority of a lessee’s financial rights and obligations under lease agreements must be included on that statement by “recording a liability of the future lease payments along with a corresponding asset.” This will mean that lessees with substantial lease obligations — such as a broadcast licensee leasing channel spectrum — may be adding significant amounts of liability to their balance sheets.
The New Standard’s Four Concepts
Morgan goes on to outline four concepts that are central to understanding the new standard and its potential impact on an organization.
First, it defines a lease as a contract or part of a contract that transfers the right to control the use of the underlying asset over a period of time and for monetary consideration. “Under the new standard, a contract will be considered to be, or to contain, a lease when the customer has both the right to substantially all of the economic benefits of the use of the asset and directs the use of the asset.”
Second, many lease agreements have a service component, such as maintenance of a building. In following the new standard, the service component is likely to represent an expense as incurred rather than an amount to be shown on the balance sheet. As a result, components meeting the definition of a lease will have to be separately recognized, measured, and presented on the balance sheet.
Third, the new standard is required for all leases, except those specifically excluded by the rule. Those exclusions include certain leases involving intangible assets, natural resources, inventories and assets under construction. Although the effective date for the standard is still a year away for public companies, Morgan says its far-ranging impact is one of the reasons companies need to be aware of how their current and future lease agreements are going to impact their company balance sheets going forward.
Finally, the impact on lessors, such as a station that leases out some of its assets, will be less significant. Although FASB had once considered a mirror-image approach, where the accounts of lessees and lessors would balance in the aggregate, it decided to keep the focus on where there are financial obligations, which rest with the lessee.
Its Wide-Ranging Impact
As Morgan’s overview of the new rule makes clear, it is going to have an impact on many parts of a business operation. “In addition to the changes on a company’s financial statements, the new lease standards will have a ripple effect throughout your company,” he points out. “It will influence systems, controls, processes, as well as the communication of all these changes throughout your company and to your downstream departments.”
Compliance with the new rules may mean that internal controls and processes for recording leases will need to be updated. Morgan expects this will involve equipping accounting departments with new systems for capturing, processing and maintaining all of the data concerning the lease agreements held by their company’s business operations.
There is a very real likelihood that the new rules will impact a company’s income taxes. In light of what Morgan calls a “significant uncertainty regarding the way states will treat new assets for income, sales and property tax issues,” tax departments will want to be pro-active and discuss these impacts with tax advisors.
Under the current rules, financing operating leases does not affect the balance sheet. Companies will need to determine how the changes under the new standard can impact their debt covenant compliance.
“Get Ready, Get Set …”
At this, point, most companies are developing their action plan for analyzing their lease agreements and determining how to account for them under the new standard.
If they haven’t done so already, companies should consider designating a lease implementation team. Morgan recommends it include, “all key players familiar with the standard, its impact on the organization and their roles in the implementation.” Designated team members should also be made responsible for discussing the organization’s approach for adopting the new standard with the company’s external auditor.
Many groups already have a team working on adoption of the revenue recognition standard I referenced at the beginning of this column. This team will have a good idea of the effort that complying with another new accounting standard is going to require. As Morgan concluded in his article, “Detailed planning, adequate resourcing and generous lead times are the key factors in smooth and advantageous implementation of any new and far-reaching accounting standard.”
While much of the responsibility for complying with the revised lease accounting standard falls upon a company’s corporate finance department, no one has a better idea of the nature and status of a TV station’s lease agreements than its local management team. If you haven’t been contacted about the new rules or discussed how they should influence your future lease agreements, I encourage you to follow Chris Morgan’s advice and be part of a pro-active response. Reach out to your finance team and discuss what will be required from your station.
You and your entire senior finance team can also count MFM among the resources that are available to field questions about the new revenue recognition and lease accounting rules. MFM has convened several task forces that include senior finance executives from TV station groups and industry experts, like Grant Thornton’s Chris Morgan.
We will also be discussing the latest developments at the upcoming MFM CFO Summit, scheduled for March 8-9 in Fort Lauderdale, Fla., and Media Finance Focus 2018, our 58th annual conference, being held in the Washington, D.C. area May 21-23.
In the meantime, please let us know if there are any aspects of the new rules you would like to discuss or if your work on adoption of the new rules has yielded insights that would be helpful to your industry colleagues.
Sharing timely information on matters of financial importance to the industry is fundamental to MFM’s role as the premiere resource for media financial professionals.
Mary M. Collins is president and CEO of the Media Financial Management Association and its BCCA subsidiary, the media industry’s credit association. She can be reached at [email protected] and via the association’s LinkedIn, Twitter or Facebook sites.