Maximising the Benefits of Leasing for the Treasury Function
By Joshua May, Senior Director Solution Consulting – EMEA, LeaseAccelerator
New lease accounting standards have shone a spotlight on Lease versus Buy decision-making, as well as the effective management of leases. As such, now is the perfect time to consider ways to maximise the benefits of leasing for your organisation – from better supporting liquidity planning to garnering significant cost savings at the inception of a lease.
The transition from IAS 17 to IFRS 16, the new lease accounting standard, has been widely documented in the European trade press. Likewise, across the Atlantic, where ASC 842 has superseded ASC 840 in US GAAP. Under these new standards, virtually all leases must now appear on the balance sheet.
Despite the challenges of meeting the immediate, and indeed ongoing, compliance requirements, this new dawn for lease accounting also presents a number of strategic opportunities for the finance function, and treasurers in particular. The first is to gain greater visibility over leases, which can, in turn, lead to improved cash forecasting.
A well-run leasing model, whereby leases are visible in a global, cloud-based platform, can free up working capital to be invested in other parts of the business that might have better returns such as expansion, marketing or R&D. Another benefit of leasing is the predictability of payments. Monthly expenses are known in advance enabling treasury organisations to better forecast and plan for cash needs.
Having central visibility over all the company’s leases – across the globe – can ensure that the business is realising the expected economic benefits. For example, many companies do not have processes in place to prevent leases from going ‘evergreen’. This is when companies continue to pay monthly fees beyond the end of a lease term. Overpayment is surprisingly common and can erode the savings expected from leasing. Many leasing companies may not be forthcoming in flagging the error or returning any excess monies.
Organisations should establish processes to alert treasury in advance of leases expiring and allow them time to prevent any overpayments and to thoroughly consider whether the lease should be renewed, or perhaps whether it would be better to buy the asset. This ‘Lease versus Buy’ analysis is another potential area of strategic opportunity for treasurers in the wake of IFRS 16 transition.
Making robust decisions
With numerous – and often large – operating leases coming onto the corporate balance sheet for the first time, questions will naturally be asked around the benefits of leasing. Why was leasing chosen rather than buying the asset outright? What are the financial implications of leasing? Is leasing the best option for the organisation? And are we getting the best deal on our leases?
As such, finance functions need to be able to justify why the decision was made to lease rather than buy. This requires a documented process that is digitally captured from start-to-finish.
In truth, many organisations do not currently have such a formalised decision-making process. In some organisations, these discussions are simply that – conversations with no rigorous framework. In others, leases are awarded on the basis of good relationships with the lessor. And in the worst-case scenario, leases are renewed out of habit, rather than analysis of the potential benefits.
Even those corporates which do conduct a formal Lease versus Buy analysis will often do so using Excel. While spreadsheets can be an effective tool, manual workflows mean they are also prone to error. Common problems include using outdated financial variables or incorrect formulae in the analysis. These both result in incorrect comparisons that lead to costly financing decisions. This is especially common when ownership of the spreadsheet sits outside of treasury. As such, Lease versus Buy decisions based on these spreadsheets are not necessarily robust – and are not in a format that can be easily shared with management or auditors.
Human intervention in these workflows can also mean that bias may come into decision-making, whether consciously or unconsciously. One lessor may be favoured over another due to pre-existing relationships. Or leasing may seem like the tried-and-tested option, but that does not necessarily make it the optimal solution for the company at this point in time.
Man versus machine
One strategy for companies to avoid making incorrect decisions is to adopt an automated and standardised Lease versus Buy application. An automated tool such as this should store all financial variables centrally with regular updates permitted by corporate treasury. Such a tool will also provide assurance that all Lease versus Buy calculations for cash flows and net present values (NPVs) are accurate. And it will ensure that all analyses are consistently prepared in accordance with company policy – across all jurisdictions.
Automating these workflows also removes the emotional and unreliable element from the Lease versus Buy decision. The right software will analyse the cash flow, tax impacts, and present value of leasing versus buying in an unbiased way, as well as determining the optimal lease structure.