Definition of a lease: Applying the new lease standards

Transcription

1 Definition of a lease: Applying the new lease standards May 12, 2016 kpmg.com/ca/leases

2 Today s presenters Jeff King Partner Accounting Advisory jgking@kpmg.ca Mag Stewart Partner Professional Practice magstewart@kpmg.ca Sharlene Wilson Partner Accounting Advisory sharlenewilson@kpmg.ca 2

3 We d like to hear from you Questions may be submitted anytime during the webcast by typing them in the Ask a Question text field and clicking Submit. 3

4 CPE credit information This KPMG course may qualify for professional development credits as required by your professional association. Each person is responsible for ensuring that he/she complies with the CPE requirements of the professional association or accreditation body to which they belong. KPMG will provide a timed agenda and course materials that participants may retain to support any CPE credits claimed. KPMG will not provide confirmation of CPE credit entitlement that any person has earned by attending a course, seminar or other professional development activity presented by KPMG. 4

5 Agenda Lease definition: Overview Identified asset Control over the use of the identified asset Applying the definition Lease and non lease components Lease definition on transition Wrap up 5

6 Lease definition: Overview

7 Lease definition on/off-balance sheet-test The new on/off-balance sheet-test for lessees a key judgement area FASB and IASB definitions aligned 7

8 Definition of a lease Identified asset? No Does the customer control use of identified asset throughout period of use? Yes Customer obtains substantially all economic benefits? Yes Customer directs the use? Yes No No Contract is (or contains) a lease Contract is not a lease 8

9 Example: Supply contract Manufacturer X 5-year contract Company B Contract specifies using plant Q to supply components. Plant Q X will operate the plant and charge a cost plus price to B. There is no prohibition to sell to other customers and it is remote that other customers will take any of the production. 9

10 Example: Supply contract solution IFRIC 4/ Topic 840 Contract Specific asset Right to use Lease + + = IFRS 16/ Topic 842 Contract Substantially Directing Identified all of the + + asset economic + = right to use benefits Not a lease 10

11 What s changed Comparing definitions IFRIC 4/ Topic 840 Contract Asset Operating asset or controlling access & > insignificant amount of output or substantially all of the output and specific pricing IFRS 16/ Topic 842 Substantially all of the economic benefits & directing the right of use 11

12 Identified asset

13 Is there an identified asset? Is the asset specified in the contract (explicitly or implicitly)? Yes No Is the asset physically distinct or does the customer have the right to receive substantially all of the capacity of that asset? Yes Does the supplier have substantive substitution rights? No No Yes Contracts does not contain a lease. Apply other standards. There is an identified asset. 13

14 Substantive substitution rights Practical ability of lessor to substitute asset throughout the period of use? Yes Lessor benefits economically from substitution? Yes No No Could be identified asset No identified asset = no lease If Customer can t conclude there is a substantive substitution right, it s presumed there is not. 14

15 Identified asset Example 1 Physically distinct? Scenario 1 Customer enters into a contract with Supplier to store its product in a specified storage Warehouse 3C. Customer has storage rights for up to 60% of the capacity of Warehouse 3C. However, the exact space to be used by Customer is not specified. The contract allows Supplier to store products from other customers in the same warehouse. Supplier decides where each customer s product are stored within Warehouse 3C and can relocate them at its sole discretion. Supplier has no substitution rights. Scenario 2 Customer enters into a contract with Supplier to store its product in a specified storage Warehouse 3C. Customer has storage rights for 60% of the capacity of Warehouse 3C. The contract provides Customer the right to use Rooms A, B and C within Warehouse 3C. Supplier has no substantive right to substitute alternative space in place of Rooms A, B and C. Is there an identified asset? 15

16 Identified asset Example 2 Substitution rights Scenario 1 Customer enters into a five-year contract with a freight carrier (Supplier) for the use of ten 28 trailers owned by Supplier. The contract specifies the trailers by license number. If a particular trailer needs to be serviced or repaired, Supplier is required to substitute another 28 trailer. Other than on default by Customer, Supplier cannot retrieve the trailers during the five-year period. Scenario 2 Building on Scenario 1, assume the contract also requires Supplier to provide a tractor and a driver when requested by Customer. Supplier can choose to use any one of a number of tractors to fulfil each of Customer s requests. One tractor could be used to transport not only Customer s goods, but also the goods of any other customers at the same time. Is there an identified asset? 16

17 Control over the use of the identified asset

18 Does the customer control the use of the identified asset? Step 1 Determine the scope of the customer s right of use within the contract Step 2 Identify the economic benefits from use of the identified asset Step 3 Step 4 Does the customer have the right to obtain substantially all of the economic benefits from use of the identified asset? Yes Does the customer have the right to direct the use of the asset? No No Contracts does not contain a lease. Apply other standards. Yes Contract is or contains a lease 18

19 Step 1: Scope of customer s right of use Scenario 1 Scenario 2 When How When How What What Where Whether Where Whether Universe of relevant decision-making rights related to the use of an underlying asset Scope of the contract 19

20 Step 2: Economic benefits What are the economic benefits from using the asset? Economic benefits arising from use of the asset Economic benefits derived from ownership of the asset Direct benefits arising from using, holding or subleasing the asset Other economic benefits relating to the use of the asset (e.g. renewable energy credits received, or by-products arising from the use of an asset) For example, income tax credits 20

21 Step 3: Substantially all economic benefits 25 year contract for customized solar panel output. Supplier receives renewable energy credits. Office contract. Tenant sublets 25% of space. Retail store contract. Rental = fixed amount + 20% of revenue. Car rental contract. Limited to 20,000 kms per year and inside Canada. 2 years jet charter. Share access and use with another party. In each of the scenarios, does the customer have the right to obtain substantially all of the economic benefits? 21

22 Step 4: Directing the right to use Who has the right to direct the how and for what purpose decisions? Customer Predetermined Supplier Contract is or contains a lease, if other criteria are met. Further analysis is required. Contracts does not contain a lease. 22

23 Examples of decision-making rights Example rights to direct how and for what purpose the asset is used for Other rights Right to change the output produced by the asset Right to change when the output is produced Right to change where the output is produced Right to change whether the output is produced and, if so, quantity produced. Supplier protective rights Maintaining the asset Insuring the asset Operating the asset, except when decision-making rights are predetermined. 23

24 How and for what purpose are predetermined How and for what purpose decisions are predetermined Customer designed asset The customer has the right to operate the asset or direct others to operate the asset in a manner it determines throughout the period of use. Or Customer has right to operate asset The customer designed the asset in a way that predetermines how and for what purpose the asset will be used throughout the period of use. Customer has the right to direct the use the asset 24

25 Right to direct the use of an asset Example Customer enters into a five-year contract with Supplier for a storage warehouse to store its grain. The warehouse is specified in the contract. Customer has exclusive use and Supplier has no substitution right. Therefore, there is an identified asset. The contract includes a list of items and specific quantity that may be stored in the warehouse, agreed by Customer and Supplier. Customer is not permitted to change the types or quantity of grain stored or use the warehouse for any other purpose. Supplier will operate and maintain the warehouse. Is there a lease? 25

26 Applying the definition

27 Transport contract Supplier provides Customer with a truck and three trailers for its exclusive use for 3 years. Supplier has no substitution rights except for servicing or repair. Customer keeps the truck and trailers at its location when they are not in transit. Customer can use the truck with a trailer not provided by the Supplier, and can use the trailers with trucks other than the one provided. Customer is responsible for providing a driver for the truck and can decide when and where the truck and trailers go. The contract limits the use of the truck to 120,000 km over the 3 year period. The contract prohibits Customer from hauling loads above a certain weight. 27

28 Network services contract Customer enters into a contract with a telecommunication company (Supplier) for network services for two years. The contract requires Supplier to supply network services that meet a specified quality level. In order to provide the services, Supplier installs and configures servers at Customer s premises. Supplier determines the speed and quality of data transportation in the network using the servers. Supplier can reconfigure or replace the servers when needed to continuously provide the quality of network services defined in the contract. Customer does not operate the servers or make any significant decisions about their use. 28

29 Power purchase agreement A Customer enters into a contract with Supplier to purchase all of the electricity produced by a solar farm for 20 years. The solar farm is explicitly specified in the contract and Supplier has no substitution rights. Customer designed the solar farm and hired experts in solar energy to assist in determining the location of the farm and the engineering of the equipment. Supplier is responsible for building the solar farm to Customer s specifications, and for operating and maintaining it. There are no decisions to be made about whether, when, or how much electricity will be produced because the design of the asset has predetermined those decisions. Supplier will receive tax credits for construction and ownership of the solar farm, Customer receives renewable energy credits for use of the solar farm. 29

30 Power purchase agreement B Customer enters into a contract with Supplier to purchase all of the power produced by a specified power plant for three years. Supplier owns and operates the plant and is unable to provide power to Customer from another plant. The contract sets out the quantity and timing of power that will be produced, which cannot be changed except in extraordinary circumstances. Supplier operates and maintains the plant in accordance with industryapproved practices. Customer had no involvement in the design of the plant, which Supplier completed years ago. 30

31 Power purchase agreement C Customer enters into a contract with Supplier to purchase all of the power produced by a specified power plant for 10 years. The contract states that Customer has rights to all of the power produced by the plant i.e. Supplier cannot use the plant to fulfil other contracts. Customer issues instructions to Supplier about the quantity and timing of the delivery of power. If the plant is not producing power for Customer, Supplier does not operate. Supplier operates and maintains the plant on a daily basis in accordance with industry-approved practices. 31

32 Lease and non-lease components

33 Accounting for the components Lessee Lessor When there is an observable stand-alone price for each component When there is not an observable stand-alone price for some or all components Taxes, insurance on the property and administrative costs Practical expedient: accounting policy election by class of underlying asset Separate and allocate based on relative stand-alone price of components (unless practical expedient elected) Maximize the use of observable information. Always separate and allocate following the IFRS 15/Topic 606 approach - i.e. generally 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 in a contract Combine lease and any associated non-lease components and account for them as lease components N/A 33

34 Accounting for the components Example 1 Identify the components Lessee L enters into a five-year lease contract with Lessor M to use an operating oil rig. The contract includes maintenance services provided by M. M obtains its own insurance for the oil rig. Annual payments are 2,000 (300 relate to maintenance services and 50 to insurance costs). L is able to determine that similar maintenance services and insurance costs are offered by third parties for 400 and 50 a year, respectively. L is unable to find an observable stand-alone rental amount for a similar oil rig because none is leased without related maintenance services. How much should be allocated to the lease component? 34

35 Accounting for the components Solution Example 1 Identify the components How much should be allocated to the lease component? In this case: The observable stand-alone price for maintenance is 400. There is no observable stand-alone price for the lease. The insurance cost does not transfer a good or service to the lessee, and therefore is not a separate lease component. Therefore: L allocates 1,600 (2, ) to the lease component. 35

36 Lease definition on transition

37 Applying the new lease definition Cost Comparability Apply the new definition to all contracts OR Grandfather existing contracts and apply the new definition only to new contracts 37

38 Wrap-up

39 Impact on your contracts today Lease and non-lease components changes to contracts needed? Fixed versus variable costs? Depending on appetite for on-balance sheet recognition consider assessing contract terms i.e. variable payments? Consider whether predetermined rights or terms should be built into existing contracts? Consider practical expedients, grandfathering and lessee exemptions short-term and low-value (IFRS only). 39

40 Resources: kpmg.com/ca/leases 40

41 Questions

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