For year-ends 31 December 2019 and onwards, the long awaited new accounting standard regarding leases (NZ IFRS 16 Leases) comes into effect. NZ IFRS 16 significantly changes the way lessees will need to account for their most material leases, including property, vehicles, and heavy equipment.
The accounting treatments required by NZ IFRS 16 are nuanced, requiring the use of various judgements and estimates. These will need to be (i) determined, (ii) documented, and (iii) supported with corroborating evidence and support.
While the scale and scope of every entity’s NZ IFRS 16 adoption will be different, there are some common steps that all entities will need to work through, which we detail below.
1. Information is power – start upskilling
There is a plethora of published guidance relating to NZ IFRS 16 and its international equivalent (IFRS 16).
BDO has a collection of detailed and short publications and resources, as well as free online training webinars.
Visit BDO’s “Adopting NZ IFRS 16” webpage, which has a one-stop-shop of all BDO’s published guidance.
2. Have “the chat”
There are different accounting options available for both adopting and applying NZ IFRS 16. However all entities in a consolidated group MUST all be adopting and applying NZ IFRS 16 consistently.
For entities that are subsidiaries of (foreign) parent entities, if you have not already received instructions as to how [NZ] IFRS 16 is to be applied across the group… ask them sooner rather than later. There is no point heading down the wrong path only to be told you will have to “unpick” all your hard work later on.
In addition, entities with US parents may have added complexities to overcome, as US lease accounting can be significantly different from NZ IFRS 16.
3. Identify and address any consequential impact areas
Financial metrics such as EBIT(DA), net profit, [times] interest, gearing (debt vs. equity), and return on investment/assets, all change under NZ IFRS 16.
Entities will need to identify what other areas these flow into, and then make necessary changes to address as soon as possible (preferably before year end).
Entities will need to consider areas such as: (i) bank covenants; (ii) employee bonuses; (iii) earn-out payments; and, (iv) share price determination.
4. Make key decisions
Unless these decisions are being made by an entity’s parent (see 2. above), there will be several key decisions to be made:
- Which adoption options will be used (NZ IFRS 16 has three broad adoption approaches, with two of these having five additional simplifications).
- Which of the three general application options will be used.
- Will the nature and scale of the entity’s lease population require a lease software solution to be used (rather than manual spreadsheets).
Making these decisions early will focus an entity’s adoption process.
5. “Loop in” the auditor
Once key decisions have been made, and the adoption approach clarified, soliciting auditor feedback will be useful for several reasons:
- It may highlight areas the entity has overlooked or misunderstood.
- Audit work can be planned more efficiently (scope and scale is dependent on the application choices and entity makes).
- Fee estimates for the coming (an on-going) audit can be discussed.
These are better to be discussed before an entity starts down the adoption path.
6. Compile copies of all necessary documents
NZ IFRS 16 requires data and information from various sources… more than you would think! To start with, entities need to start collecting copies of:
- All lease agreements (including all amendments and variations).
- Reconciliations of all lease-related balances previously recognised .
- Historic information (depending on the adoption approach chosen).
7. Collate key lease information in a central spreadsheet
Key lease information to be collated will include details relating to:
- General lessee, lessor, and leased item details
- Specific clauses (i.e. make-good, lease incentives etc.)
- Lease term details (i.e. initial period, renewal and termination options)
- Lease payment details (i.e. rent-free, initial, variable, purchase options)
- Any sub-leases or on-leasing (“re-leasing”), and
- Lease-related balance sheet items previous recognised.
This should be documented, per lease, in a single, centralised spreadsheet – doing so will make the application and audit of NZ IFRS 16 more efficient.
8. Determine key management judgements
From the key lease information compiled, several key management judgements will need to be made, documented, and supported, including:
- Lease term duration (i.e. use (or not) of renewal/termination options).
- Lease payments (i.e. use (or not) of purchase options).
9. Evaluate and determining discount rates
As most lease agreements will not have specified (finance) rates, entities will need to determine the incremental borrowing rate (IBR) for a lease.
Now that an entity has chosen its adoption approach, and has determined the lease term and (gross) lease payments for its leases, it can go about:
- Determining how many IBRs are needed (i.e. disaggregating the lease population into groupings of similar characteristics: (i) jurisdiction; (ii) asset type; (iii) gross payment; (iv) term).
- Discussing the grouping and determination approach with their auditor – as IBRs are a key management estimate, appropriateness and accuracy is crucial
- Obtaining IBRs required.
10. Run the numbers
By this stage, the information and key judgements and estimates should be available for an entity to start running the numbers.
As a sense check, it can be useful to start with the most “complicated” lease an entity has (normally a property lease), run the numbers, and then have the auditor or external expert review and provide feedback.
This will ensure that the calculation approach to then be applied to the remaining lease population is accurate.
11. Document your adoption… tell your story
Being able to explain how an entity has adopted NZ IFRS 16 is going to be important when discussions begin with auditors, senior management, and/or the Board.
As an entity moves through their adoption of NZ IFRS 16, they should be documenting the steps that were taken, sources of information, key decisions, judgements made, and estimates determined (at a minimum).
Where relevant references to specific paragraphs in NZ IFRS 16 should be included, as this will indicate that compliance with standard has been considered, and then assessed.
The documentation of the adoption of NZ IFRS 16 will form one of the key pieces of audit evidence.
12. Communicate the results
Once the journey is complete, and there is certainty over the numbers and their impacts, this should be communicated to stakeholders in the organisation.
Getting ahead of the curve on this is (in our experience) is a much better approach than stakeholders simply learning about the existence an impact of NZ IFRS 16 in the entity’s management or year-end accounts (well after the fact).
Food for thought… bring in the experts
Download the Getting Ready for IFRS 16 Checklist to assist entities in identifying whether there are any areas discussed above where expert assistance and advice may be needed.
BDO IFRS Advisory is a dedicated service line available to assist entities in adopting NZ IFRS 16.
BDO IFRS Advisory – Tailored Adoption Assistance
BDO adopts a flexible and fully customisable approach to assisting entities with their adoption of new accounting standards. This allows us to be as involved as an entity requires, so that this can be built around an entity’s own existing in-house resourcing and expertise.
Often entities have an idea of what needs to be done, but don’t know exactly where to start or focus their energies, and just want to get the ball rolling.
We have found our BDO Guided and BDO Assessed approaches fit well to accommodate this, whilst also retaining the ability to scale up involvement quickly if need be – either way, we work WITH you.
Members of BDO’s IFRS Advisory department come ready with real life experience in adopting NZ IFRS 16 and are therefore well placed to provide entities with the expertise and assistance they require.
For more information as to how BDO IFRS Advisory might assist with assessing the impact of your adoption to new accounting standards please contact James Lindsay at BDO IFRS Advisory and visit our IFRS Advisory webpage.
 i.e. Lease payments in arrears/advance; Lease incentive accruals; Onerous leases; Intangibles from previous business combinations; Deferred gains/losses from previous sale and leasebacks.