Dive Brief:

• 58% of companies that transitioned to new lease accounting rules earlier this year discovered embedded leases as they prepared for their first post-transition audits, according to a survey of 240 accountants by software company LeaseQuery and CPA training company Encoursa.
• 26% of the companies updated their internal controls for lease terminations and modifications as a result of the audit findings, and 70% said they increased department efficiencies.
• 66% of companies gave their auditors full access to the system the company used to transition its leases to the new accounting standards.

Dive Insight:

Public companies began transitioning to the new ASC 842 lease standard late last year. Private companies and nonprofits were scheduled to make the transition at the end of this year, but the deadline was pushed back another year to give organizations a chance to focus on the pandemic.

Under the changes, instituted by the Financial Accounting Standards Board (FASB) as a way of increasing lease transparency, organizations must disclose operating leases on their balance sheet, both as an asset and a liability, in the same way as capital leases. It is no longer permissible to disclose leases as expenses on the income statement and in the footnotes to the financials.

The quantity of a company's operating leases varies by the size and complexity of the operation. In the survey, just under 60% of companies had fewer than 100; about 10% had more than 1,000.

Leases are often embedded in contracts. For example, a contract to place and service a copier will typically include a lease for use of the equipment.

For most companies, the first post-transition audit required more effort than audits typically do because of the unfamiliarity of the new accounting standards. This unfamiliarity is something companies should prepare for if they haven't yet made the transition or conducted a post-transition audit, says Jennifer Booth, vice president of accounting, at LeaseQuery.

"The challenge of a post-transition audit is looming for many private companies and has been vastly underestimated," she said.

Notwithstanding the added work, the audit should help companies identify embedded leases they otherwise would have overlooked and lead to internal control improvements and more efficient operations, particularly under today's conditions.

"Better visibility into business data, and a holistic view of leases, can provide substantial advantages for businesses looking to renegotiate terms during the pandemic," the survey report says.

Although many companies gave their auditors access to their lease accounting system during the transition, a sizable number — more than 40% — made the transition without any auditor help. Auditors provided some transition guidance for just under 20% of companies, something the report recommends more companies consider.

"Opening up a line of communication with auditors before the audit, or even before the transition, will leave less room for surprises and fewer questions later," it said.

Half of the companies used a software solution to make the transition, while just under 40% used Excel or another spreadsheet program.