New FASB Lease Accounting for Commercial Real Estate Leases

Are you aware that the Financial Accounting Standards Board (FASB) has issued a new accounting standard for operating leases?  Under the new lease accounting standard (ASC 842), companies will need to include the majority of their operating leases (i.e. office & IT leases) on their balance sheets from January 1, 2019 onward.  For privately held companies, it is effective January 1, 2020.

And while 2019 may seem like a long ways away, publicly traded companies will need to provide the following:

  • 3 years of profit and loss statements (2017, 2018 and 2019)
  • 2 years of balance sheets (2018 and 2019)

As such, preparation and compliance for ASC 842 starts in 2017.

In terms of preparation, there are many things a company can do.  Simple things like centralizing your lease data and inputting into a central database (excel spreadsheets are no longer acceptable) is a great start.

Other less simple things you can do is start learning the fundamentals of ASC 842 and determining the financial impact of existing lease contracts on the balance sheet.  Here are some of the questions you will need to answer:

  • How do you calculate the asset and associated liability on the balance sheet?
  • What is the impact on your Bank Covenants?
  • How do landlord allowances impact the calculation?
  • Are their good and bad clauses in existing leases that need to be amended?
  • What discount rate do we use?

As a frame of reference, a 12k SF office space leased for 5 years at an average annual lease rate of $25 PSF could increase a Company’s assets and liabilities by approximately $1.2MM.  Apply this to all your office leases, as well as any office or IT equipment, and the impact to the balance sheet could be substantial.

As a Real Estate professional that is also a CPA, I will be supporting my clients through this conversion and developing strategies for limiting the balance sheet impact of existing and future operating leases.

In the coming week and months, I  will be providing additional guidance on the impact of ASC 842 on commercial leases.  In the meantime, if you have any specific questions in regards to your company, feel free to contact me directly.

The Top 10 Markets for Investment Sales

 

The top 10 markets with the highest first half of the year sales volume include the following:

Houston, TX

Investment sales in the U.S. continue to lag the pace set last year. Even with an uptick in pricing, the $109.2 billion in sales that occurred in the second quarter represent a 5 percent year-over-year decline. Total first half sales dropped by 8 percent to $211.1 billion, according to Real Capital Analytics (RCA), a New York City-based research firm.

Certainly, that doesn’t show a precipitous drop. However, there are several factors contributing to that slowdown. “You can’t ignore the fact that we are in an environment where there is more uncertainty,” says Sean Coghlan, director of investor research with real estate services firm JLL. Elevated political risks, regulatory risks, rising interest rates and geopolitical issues are among the top concerns. JLL is reporting a bigger decline in first half of the year investment volume of 13 to 15 percent across the four major property types of office, industrial, retail and multifamily. (RCA also tracks hotels and development sites.)

There is a shortage of opportunities that is happening at the same time as buyers are becoming increasingly selective. “So we are seeing a little bit of an imbalance between the supply side and the demand side of capital,” adds Coghlan.

“I believe that there is still a lot more equity demand than there are deals out there,” notes Michael T. Fay, a principal and managing director in the Miami office of real estate services firm Avison Young. Pricing has become much more of a factor today. “There is a pricing gap between a seller’s expectations and where underwriting has come in on some of these properties,” he says.

The one sector that is out-performing is industrial. According to RCA, industrial sales increased 10 percent during the first half to reach $30.1 billion. “A big factor in that is that we are seeing a wave of new portfolio transactions that are over $250 million,” says Coghlan. According to JLL, an estimated $3 billion in industrial portfolio transactions have closed in the first half of the year and over $13 billion in portfolio sales are expected to close in the second half of the year.

Hotel sales remained flat, while other major property sectors also posted a drop in sales, led by development sites that fell by 20 percent; followed by apartments at 17 percent; retail at 16 percent and office at 2 percent, according to RCA.

Even with a decline in transaction volume, sales remain relatively robust in most major metros. Combined, the top 10 most active sales markets during the first half of the year accounted for 35 percent of total sales at $74.4 billion. The top 10 markets with the highest first half of the year sales volume include:

  • Los Angeles
  • Manhattan
  • Dallas
  • Boston
  • Atlanta
  • Chicago
  • Houston
  • Seattle
  • San Francisco
  • Northern New Jersey