By Nick Nesbitt, managing director, CCH Tagetik, UK and Ireland
Given the myriad difficulties high street retailers face right now, the fact that they will be the hardest-hit by the new IFRS 16 accounting rules seems a particularly bitter pill for them to have to swallow. Essentially these rules, which come into effect on 1 January 2019, require publicly traded companies to include leases on their balance sheets.
IFRS 16 hits retailers hard because a typical one has thousands of leases – not just for commercial property, but many other assets such as delivery vehicles, point-of-sale (POS) and security equipment, like CCTV and alarm systems. For all intents and purposes leases appear as debt. PwC calculates that as a result of IFRS 16 the retail industries’ median indebtedness will grow by 100% – double that of the second-hardest hit industry, aviation.
I won’t mince words here: if you haven’t started to prepare for IFRS 16, the next few months ahead are going to be tough going. By all accounts – including that of our parent company – preparation is labour-intensive and demands extremely high attention to detail. Locating all your lease data is the first half of the battle. It involves not only finding but going through all your agreements with a fine-toothed comb to pull data on things like subletting, break clauses, expiry dates and whether lease payments vary depending on index rates.
The other half of the battle is logging all this data into a system, assessing IFRS 16’s impact and, ideally, taking remedial action. These new rules are expected to radically alter retailers’ financial statements for many years to come. Yes, the value of assets will go up significantly, but as noted earlier, liabilities will as well. For retail borrowers, these changes to key financial ratios could make life very difficult. This is one reason why it’s so important to know in advance what IFRS 16’s impact will be before the implementation deadline.
Ideally retailers build in ample time to deal with unexpected hurdles in the process, look at the ‘before and after’ IFRS 16 picture and adjust their leasing strategies and agreements. This may include deciding to exit certain leasing agreements.
The vast majority, however, are having to make up for lost time. Many finance teams are evaluating a range of technologies to accelerate the process of mining data from the lease agreements and assessing IFRS 16’s impact on corporate performance. Spreadsheets, which many companies think they can use to capture IFRS 16 data, are categorically not fit for this purpose. Not only are they chronically prone to human error, but they are also very difficult to tie in with your financial systems. Nor are Legacy ERP applications the answer. They will take more time and expense to tailor than you have at this stage.
Fortunately there are more suitable options designed to handle IFRS 16 compliance. One is lease management software. Beware, however of standalone systems that aren’t tied into corporate performance management software. These won’t be able to provide that crucial impact analysis.
The best option for companies just getting started now are corporate performance management software packages that provide an IFRS 16 module. Look for a cloud-based system that requires minimal setup and training so you and your team can hit the ground running. A $23 billion global services company, operating in 39 countries uses the cloud version of our software for IFRS 16 compliance reporting and as a centralised repository for more than 14,000 property and automotive lease contracts. This level of lease volume would be incredibly difficult and risky to manage using spreadsheets or other legacy systems not designed for this purpose.
There’s no denying that for retailers, IFRS 16 represents nothing but a bitter pill to swallow. Once the hard work is completed, however, the added visibility might just provide a little ‘sugar’. Knowing the full extent of your lease exposure can provide insights to drive better decision making, improve your negotiating power and help you prevent unexpected surprises. On a practical level, setting up a system to automate IFRS compliance will have been a valuable exercise. The really onerous work only needs to take place once.
Most importantly however, if you have been proactive in preparing for and complying with IFRS 16 this alone will set you apart from your competitors in these incredibly challenging times.
(A Retail Times’ sponsored article)