Oddly, the changes are likely to be favorable for many corporations when it comes to EBITDA. That’s because a large amount of what’s currently operating expense on lessee income statements would be reported on balance sheets as debt and amortization. “If we required minimum EBITDA of $25 million … the customer’s financial performance could deteriorate[,] yet it could meet the covenant,” Roger May, president and board chairman of CBI Equipment Finance, a subsidiary of Commerce Bank, wrote FASB Chairman Russell Golden in September 2013.
Precisely because of the appearance of all that debt, however, bankers could be looking at a raft of borrowers with much gloomier D/E ratios. Thus, “even though the customer’s financial performance has remained the same,” its higher leverage ratio under the proposed lease accounting standard could violate its debt covenant with the bank, wrote May. That would require the borrower to obtain a waiver for breaking the covenant and to re-document the loan request, and both actions would involve fees.
Besides friction with their clients, bankers have other reasons to be touchy regarding changes to lease accounting rules that might make their clients look more indebted. “Changes to financial statements of banks and their borrower customers would be vast,” Dennis E. Dixon, the president of International Bancshares Corp. wrote Golden in October. “The final impact of these changes will probably result in a de facto increase in the regulatory capital requirements of financial institutions. This is especially troublesome because financial institutions are already subject to increased capital levels due to Dodd-Frank and the Basel III capital requirements.”
The current situation in lease accounting is a difficult one for CFOs, because without final guidance from FASB and IASB, it’s hard to know how to approach bankers. However, “what we are suggesting to our client base is, ‘Don’t start doing the accounting yet, because it might very well change. But start talking to your lenders and the people who hold your covenants, because you might be able to reach some accommodation with them,’” advises Richard Stuart, a partner in the national accounting standards group at McGladrey.
One possibility is for finance chiefs to try to persuade their lenders to allow current lease accounting to apply to their covenants, even if new standards are needed to satisfy generally accepted accounting principles, he says.
But when it comes to lease accounting, every silver lining may have its cloud. “That could be beneficial to you, but you still have the cost of having to keep up another set of books,” Stuart adds.
Image: martymadrid, via Flickr