Britain’s retailers look set to emerge, counter-intuitively, as the most exposed to lease commitments, according to analysis by Aptitude Software. The company estimates that 90 per cent of UK High Street retailers will struggle to comply with the impending new lease accounting standards (IFRS 16) which come into effect in January 2019.
The new lease accounting standard fundamentally changes accounting for lease transactions and will move hundreds or thousands of lease contracts onto a company’s books and demands a level of data collection, storage and lease accounting that was not previously required. Aptitude Software believes retailers will struggle to comply part due to the sheer volume of leased assets across their businesses, including premises, delivery vehicles, machinery and IT equipment.
Ross Chapman, Global Marketing Director, Aptitude Software said, “a later start than January next year is going to stretch retail finance teams. Given the complexity, it is not surprising that many UK retailers are unsure of their lease liabilities. For large retailers, who may have more than a thousand outlets, the new leasing standards are a data nightmare. Finance teams will need to locate and sift through thousands of individual rental agreements, often buried in disparate systems and locations.
“IFRS 16 requires CFOs to place all leases on the books, making liabilities much more transparent and affecting important debt covenants. It is imperative that CFOs gain a deeper understanding of the terms of their global lease portfolios. IFRS 16, if acted on with appropriate software, will help them to do that.”
Lucy Newman, IFRS 16 Audit Partner, Deloitte added, “IFRS 16 is probably the most significant change in accounting to affect non-financial services companies in the past 20 years. CFOs have so many challenges on their plates right now and profitability is paramount. I work a lot in the retail sector and the pressure on margins is more than it's ever been before. Coupled with the fact that property occupiers are likely some of the most heavily impacted by IFRS 16, means that retail CFOs have a big job on their hands. We believe that the complex changes now required from an accounting perspective will put the days of relying on Excel spreadsheets firmly behind us.”
The PwC Global Lease Capitalisation study from February 2016 indicated that the retail industry is likely to be one of the most affected by the new standard, given the significant use of rented premises for retail stores whether this is individual stores, High Street locations or shops within department stores, are likely to qualify as leases. The PwC study estimated that there would be a median debt increase of 98 per cent for retailers, and 41 per cent median increase in EBITDA.
According to the British Retail Consortium, it is not unusual for a large retailer to have between 5,000 and 10,000 leases including assets used within their stores and other properties. With an estimated minimum of 25 to 80 data points per lease and some contracts dating back decades, the job of harvesting the necessary data is enormous.
Ross concluded, “in effect, many retailers are living beyond their means with huge lease liabilities – and this issue isn’t limited to the retail sector. We’ve recently witnessed the collapse of Monarch Airlines who were leasing multi-million-pound aircraft yet selling tickets at very low cost. The new standards mean that a company’s lease exposure will be laid bare for everyone to see. It will show those companies that live close to the knife edge and may have significant business implications for them.”