NORWALK, CT-A change in the way companies must account for leases of real estate, of equipment and so on is coming and will mean a seismic shift for many industries.

For real estate, in particular, the changes will be significant—likely to affect tenant behavior and at some point in the future, possibly even construction financing.

In June, the US Financial Accounting Standards Board and its counterpart, the International Accounting Standards Board will issue an exposure draft of lease accounting changes. The rules, which will not go into affect before 2012 or possibly 2013, are just now coming onto firms’ radar screens, says Jones Lang LaSalle’s managing director of corporate capital markets, Mindy Berman.

“I would say in the last month or two real estate owners have woken up to the issue—and what they have learned has alarmed them very much.”

For most companies the changes are still theoretical, she says. However for a small subset of firms—those making major, long-term lease renewals or built to suit arrangements—the new rules are factoring into their thinking.

Berman gave a 30,000-foot view of the complex regulations expected to go into force. Your report on the subject says that the draft “will capitalize all leases on the balance sheet by recognizing a lessee’s rights and obligations….the new approach will cause companies to recognize an asset representing its right to use leased property and a liability for its obligation to pay rent and other amounts.” What does that mean in practical terms?

Berman: There are two big changes companies have to think about. One is that all lease obligations are going on the balance sheet. All rent obligations, in other words, will be capitalized as a form of debt financing. Currently that is not the case. So depending on where a company is, their debt load may go up a little bit or a lot. It won’t be uncommon for retailers, for example, to increase by two to five times the debt they carry today because of this change.

Second, the occupancy expense that runs through the P&L will increase substantially, but companies will no longer recognize rent expense. Instead it will be an amortization of an asset they have. Firms must know that this will be a very complex change. mentioned something about changing behavior. Can you elaborate?

Berman: What real estate owners are concerned about is that tenants will be motivated to shorten their lease terms because of this. Right now companies want flexibility with their occupancy terms anyway, and they are pretty much getting it. In a more robust environment landlords will have more leverage and will be able to manage tenant pushback. But that day isn’t here yet. It will also impact financing at some point.

Berman: Yes, it could make it more challenging for a landlord to finance a property at some point. Shorter term leases, a lot of rollover—all of that is detrimental to a property’s value and financing terms.

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