Lease Accounting Standard AGA/EEI Spring Accounting Conference May 22, 2017
Lease Identification & Lease Classification
Lease identification Identified asset Control over use Lease Asset is explicitly or implicitly specified in a contract. Asset is physically distinct - Applies to distinct portions but not generic capacity Supplier does not have a substantive substitution right. Customer has the right (throughout the period of use) to: - Obtain substantially all of the economic benefits from use of the asset. - Direct (including the right to change) how and for what purpose the asset is used. Converged FASB/IASB definition 2
Lease identification Impact to Power and Utilities Rights of Way & Easements & Ground Lease Current Accounting PP&E vs Intangible Asset vs Lease vs Executory Contract vs??? Perpetual vs. term-based FASB and SEC Discussions Shared-use concepts and unit of account Timing of payments upfront vs over easement period Lateral Pipeline Segments Identified Asset? Physically Distinct: ASC 842 A capacity portion of an asset is an identified asset if it is physically distinct (for example, a floor of a building or a segment of a pipeline that connects a single customer to the larger pipeline). Discussion Points Design interdependent element of pipeline network vs. independent segment Functionality Customer vs pipeline owner control of product flow and compression (valve location, compression control, etc.) 3
Separating lease and nonlease components Separating components Taxes and insurance on the property Accounting policy election by class of underlying asset Lessee Unless accounting policy elected (see below), separate and allocate based on relative standalone price of components maximize the use of observable information Lessor Always separate and allocate using the revenue recognition standard s guidance (i.e., on a relative selling price basis) Activities (or costs of the lessor) that do not transfer a good or service to the lessee are not components of a contract and do not receive an allocation of the consideration in the contract Account for lease and nonlease components together as a single lease component 4
Separating lease and nonlease components Impact to Power and Utilities Power & Utilities Services Contracts ASC 842 accounting model increases focus on separation of Operating & Maintenance Services from: Transportation agreements Power purchase agreements IT arrangements Railcars Automobiles Lessee vs. Lessor considerations Intersection with ASC 606 5
Lease term Noncancellable period Optional renewal periods if lessee reasonably certain to exercise Comparison to current U.S. GAAP Determination of lease term under new leases standard will remain substantially unchanged from current U.S. GAAP. Periods after optional termination date if lessee reasonably certain not to exercise Optional periods to extend (or not to terminate) the lease in which exercise of option is controlled by the lessor Lease term 6
Lease Term Impact to Power & Utilities Equipment Leases and Surface Rights (Easements, Rights of Way) Arrangements commonly contain evergreen or stated renewal provisions Relevant factors to the determination of whether renewal or termination provisions are reasonably certain of exercise include: Expected useful life of leased asset or owned asset utilizing the leased asset Level of specialization or dedication of leased asset to lessee s operations Location of lessee s use of leased asset or availability of other service providers (i.e., lessee s location of use of asset at remote location decreases likelihood lessee would incur expense to replace with new lease) Impact to application of short term lease exception (<12 months) 7
ROU asset subsequent measurement Operating leases P&L: Single lease cost Single lease cost is calculated so that the remaining lease cost is allocated over the remaining lease term generally on a straight-line basis Remaining lease cost Total lease payments for the lease term Total initial direct costs incurred Periodic lease cost previously recognized ASC 360 impairment testing Once impaired, single lease cost is not straight-line (pattern is equivalent to finance lease) Impairment considerations during the transition period 8
Lessor Accounting
Sales-type and direct financing Lessors Lessor lease accounting Right to use underlying asset Lease payments Lessee Lease receivable Right to receive future lease payments + guaranteed residual value Unguaranteed residual asset Unguaranteed portion of estimated residual value Total Net Investment in the Lease 1 1 If lease is a direct financing lease, any selling profit is deferred and the deferred selling profit reduces the net investment in the lease. Lease receivable and unguaranteed residual asset discounted using rate implicit in the lease Interest income is accrued on the net investment in the lease using the rate implicit in the lease The lessor s entire net investment in the lease is assessed for impairment using the financial instruments impairment guidance 10
Transition
Transition timeline U.S. GAAP modified retrospective approach ASC 842 was issued in February 2016 Effective date January 1, 2019* 2019 quarterly & annual reports including comparative periods 2015 and prior 2016 2017 2018 2019 2020 and beyond Present comparative periods under modified retrospective approach Present in accordance with new standard It is important to start preparing today. Identify lease population Establish new policies and procedures Train users to ensure the data is completely and accurately entered across the entity Collect and enter lease data into a central system that supports both future and transitional accounting needs Key considerations: - Identify embedded lease arrangements - Identify and separate executory costs and variable lease payments - Determine lease terms and discount rates *Timeline is based on requirements applicable to a public entity with December 31 year-end and assumes company will transition on the effective date of the standard (January 1, 2019). 12
Practical expedients available upon transition (ASC 842) The following practical expedients must be elected as a package for a company s entire lease portfolio (lessee and lessor positions) for leases that commenced before the effective date: No reassessment of whether a contract is/contains a lease No reassessment of lease classification No reassessment of initial direct costs Ability to utilize hindsight in evaluating lessee options to extend or terminate a lease or to purchase the underlying asset. 13
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