To Own or to Lease. That is the Question.
If you have to account for leased space on the balance sheet anyway, why not own the asset? Well, primarily because in most cases this just isn’t practical – and it can be an inefficient use of capital. But under certain circumstances, it might be a consideration: a cash-rich company, a company with investment-grade credit, companies prepared to sell or be acquired, companies that know this is a key strategic long-term facility, etc.
Is a Bargain Really a Bargain?
So you think you’ve negotiated great terms on your renewal option? Maybe. Maybe not. What seemed like the deal of the century may just trigger the “reasonably certain” clause – meaning it’s 100% certain to be included on the balance sheet for all time – and just like that, you bought yourself a finance lease, which may not be what you intended to do.
Landlord Build-Outs or Balance Sheet Busts.
So, you have expensive taste and you want that “wow” factor when people enter your retail locations. The landlord is happy to accommodate you with generous improvement terms. Time to break ground, right?
It depends. Tenant improvements that get amortized and rolled into the lease – like landlord build-out allowances – must be accounted for differently now and will possibly trigger a change in the value of the lease. You’ll need to examine a variety of financial scenarios to strike the right balance between negotiating a landlord allotment or simply biting the bullet and paying for the improvements yourself.
Add a Lease, Lower Your Return on Assets?
Unless you are preparing for a sale of your company, banks and investors place a premium on companies that generate the most income from the least amount of fixed assets. Now that leases move onto the balance sheet, the playing field has been leveled, but the treatment of lease accounting can still impact many measures affecting your credit rating, such as debt to equity, debt to coverage, and so on. As a result, your retail real estate strategy becomes even more important to the CFO than it did in years past.
Keeping Your Balance Sheet in Balance.
Of course, every company with fluctuating portfolios should keep up with the market and their business to make sure they are constantly right-sizing their real estate portfolio. But if there has ever been a reason to get off the couch and reassess, FASB is it. The new leasing standards are a catalyst to maximize efficiencies in your real estate portfolio because doing so is one of the simplest and most effective ways to mitigate the impact of the new required standards.