Assessing the potential impact of lease accounting reform: A review of the empirical evidence

Abstract

Accounting standard-setters have proposed that the right to use assets (including land and buildings) acquired under operating lease contracts should be recognized on the balance sheet of lessee companies. In recent years, several empirical research studies have investigated the potential impact of the proposed changes in accounting for leases. The current paper reviews this work and presents some new evidence, for a property audience. It summarizes evidence that operating leases represent a major source of finance for many companies generally, and more specifically for companies in the retail sector. Recognition of operating leases on the lessee's balance sheet would have a significant impact on performance measures, especially gearing. If markets are informationally 'efficient' such changes should have little impact. However, research evidence on efficiency with respect to lease accounting information is mixed. What's more, company managers do not believe that the market is efficient so are likely to behave as if the markets are 'inefficient'.  Possible reactions include reduced use of leasing, shorter lease contract terms, more break clauses, or increased use of contingent rental agreements. It seems likely that lessors will be under pressure to bear greater risks.