- Many companies that are re-evaluating their use of real estate during the pandemic face accounting and impairment complexities, Deloitte said, noting that 66.9% of 7,700 C-suite executives, managers and analysts in a March survey indicated their organizations plan a “real estate rationalization program.”
CFOs are cutting real estate costs by exiting leased space before contracts end, buying or leasing additional space, changing lease agreements or shrinking owned space through sale-and-leaseback arrangements, Deloitte said in a report. Only 4.9% of survey respondents do not plan to “rationalize” their real estate.
“Each rationalization initiative has certain accounting implications that may not be fully understood and can introduce unexpected complexities and outcomes,” Deloitte said. “While the accounting for the lease or purchase of additional space is fairly straightforward, accounting for other real estate rationalization strategies may be challenging.”
The coronavirus struck just months after CFOs began, in 2019, implementing a complex FASB standard for recognizing assets and liabilities arising from leases. Financial executives have had to simultaneously adjust to the new accounting requirements while urgently adapting budgets to office closures and other real estate shifts prompted by COVID-19.
Deloitte identified three changes that require accounting adjustments. First, many CFOs have recognized that their companies can effectively operate with virtual or semi-virtual employee contacts. They have reviewed their lease portfolios and considered changing their use of real estate assets.
Any shifts may require CFOs to determine whether to apply ASC 360 impairment or abandon guidance, Deloitte said.
Right-of-use assets were first recognized with ASC 842 pertaining to operating leases. ASC 360 guidance is relatively new, “and many lessees are finding the related accounting requirements challenging.”
Second, some CFOs are negotiating with landlords to modify lease agreements, either to eliminate or reduce office space, or to expand space to allow for social distancing or open floor plans, Deloitte said. Treatment under ASC 842 depends on the details of the changes and whether the modifications constitute a separate contract.
“The CFO’s understanding of the ASC 842 lease accounting modification guidance is critical, as the application of these accounting requirements will have a direct impact on amounts recorded in the company’s financial statements,” Deloitte said.
Finally, some CFOs are increasingly using sale-and-leaseback transactions to free up cash from real estate, increase liquidity and divest of unneeded property, Deloitte said. After a sale the original owner may lease back all or part of the property for a period.
“Applying the ASC 842 and ASC 606 accounting models to such arrangements isn’t always straightforward,” Deloitte said. For example, under certain contract provisions the transaction may not qualify as a sale.
In Deloitte’s survey, 33.1% of respondents said they intend to reduce real estate holdings by eliminating owned or leased space, 28.8% plan to “rightsize” by shrinking space in one part of a business while expanding it in another, 22.2% are increasing their real estate footprint by purchasing or leasing more space and 11% are initiating a sale-leaseback transaction.