If I (a company) sign up for a 10 year lease on a retail space, at $10,000 per year, it's easy to see that it's a $100,000 obligation (ignoring things like present value of money etc).

Apparently (according to the article; I'm not an expert on this) that $100,000 obligation does not appear on the balance sheet. The new IFRS 16 rule means that it will; so companies will now have a lot more debt. Grandparent commenter was asking "how do you assign a dollar value to the exclusive-use value of that lease" - for example maybe the neighborhood where your shop is suddenly became really popular, so you're locked into a below-market rent for the next 8 years.

It's an interesting objection but I don't see why you'd have to assign a dollar value to it. Yes you might be overall doing well compared to other possible options but that doesn't change that you're still owing $100k.

Perhaps I'm not understanding the objection but it seems like an unfounded one.

No accountant, but here is an explanation:

Say I open a sauna in a desert. Probably not going to pay any rent, probably not going to make any money. Under zaroth's suggested way of looking at the situation this something like $0 debt, $0 asset.

Say I open a sauna in a luxurious ski resort. Now maybe I have some huge 'debt' of rent * lease lifetime; but I also have a productive asset worth some hopefully large (the right to put the sauna somewhere it will get customers).

If we only account for the debt only, we are at some level asserting that opening the sauna in the desert was a better bet because the rent is lower. This is clearly stupid, the rent is half of a transaction where we are claiming value.

If the business owner puts the upcoming lease payments on their books as a liability, then to keep the picture clear they should also be adding a productive asset to the books that represents their valuable location. If they are operating a rational business, it is likely that the asset added is equal to or greater than the liability.

Well, OK, so this is one of those things that confuses me as a non-accountant. The problem is that you're conflating two things: Debt (as in the amount of money you have to repay) vs something like "value". Why call them the same thing?

> If we only account for the debt only, we are at some level asserting that opening the sauna in the desert was a better bet because the rent is lower

No no no. This is when you misread "debt" as "value". We're just saying that the desert situation is less debt. The ski resort situation is more debt. You can be in more debt but overall have a more profitable enterprise, right?

> If the business owner puts the upcoming lease payments on their books as a liability, then to keep the picture clear they should also be adding a productive asset to the books that represents their valuable location.

This again confuses me - the debt is a sure thing. You signed a contract, meaning you have to pay up no matter what. The productive asset is not a sure thing - there's a million ways you could mess up and make less money than you intended. So it is absolutely fair to say that the desert business is low-risk (you're going to lose $0 in the worst case), and the ski resort business is high-risk (you're going to lose a lot more in the worst case).

If guessing the future value of productive assets was simple, then investors of all kinds would have a super easy job. So how could we possibly put the productive asset in the books with a straight face? Isn't that borderline fraud? I can make my projections as optimistic or pessimistic as is advantageous to me. Who's to say?

Hi there i just want to add that it is the present value of future payments that are put on the books as 'debt' (i.e. liability). Also, In situations where you truly do have a 'cheap' asset relative to the market, you are able to value that separately and many companies do. Search "below market leases 10K" for further information.

Lease accounting guidance is very complex and there are many nuances that cover concerns in this thread. The point of the guidance is to determine the fair value.

If I buy a computer for $2000 it goes on my asset sheet at $2000 and depreciates over time according to GAAP rules. Shouldn't my lease contract on a $1000/month 5 year contract be a $60,000 asset and a $60,000 liability with the asset depreciating at $1,000/month? In most of accounting we get double entry bookkeeping to work by assuming the cost paid for an asset is the value of the asset. I think in many cases reporting it this way would be more accurate (Although depreciation expenses would be a giant loophole that needs fixing).

This isn't mixing debt and value. The core point is that if the business is taking on a debt we should have regard for what the debt is being spent on, and the principle is that taking on a debt shouldn't immediately reduce equity in a business because it should be balanced by an asset.

> You can be in more debt but overall have a more profitable enterprise, right?

Yes. But if the businesses are identical in every way (management, worker skill, etc, etc) then they should have identical earning potential. If they are different in a way that is profitable, that difference is an accounting asset.

It doesn't matter how similar the hypothetical sauna in the desert is to the profitable sauna, the better location will result in better profits.

> This again confuses me - the debt is a sure thing. You signed a contract, meaning you have to pay up no matter what.

No. Nothing about the future is certain. I don't even mean that in the pedantic philosophical way, it is a very practical concern. If, eg, my fictional ski resort was buried in an avalanche that the rent would be extinguished (in sane jurisdictions, anyhow). The business might also be limited liability and go bankrupt - same $0 loss worst case as the desert.

> there's a million ways you could mess up and make less money than you intended.

That is true of any asset. Risk is an accepted concept. Even 'risk free' assets are only risk free assuming the law doesn't change.

> If guessing the future value of productive assets was simple, then investors of all kinds would have a super easy job. So how could we possibly put the productive asset in the books with a straight face?

Because 'we' think it has value. It passes the 'someone with money is paying for it' test. Guessing values isn't easy, but at some point we do have to do it to compare options.

> Isn't that borderline fraud?

I'm not going to try and lawyer and account at the same time, but accounts books aren't some magical tome that is always right. Sometimes erroneous valuations make it into them. The accountants do the best they can.

There are no set of accounts so correct they can make things true. There are reasonable and unreasonable assumptions. "I think this lease is net-positive for equity" can be a reasonable assumption. In fact, it usually will be.

replace the ski resort with a money printer. That money printer has value, given it can print money.

You can also assign a dollar amount to how valuable that money printer is. So you can justifiably stick it on your balance sheet since this is a way you're making money.

There's a whole thing in accounting about assigning dollar values to things you own, here it's no different. I would argue that you shouldn't really assign potential revenue from the ski resort, but depending on your circumstances it _could_ make sense.

Accounting is a bit arbitrary in the end, since there are multiple logical ways of representing things. In most cases it's impossible to claim that one way of thinking is wrong... at worst you can claim that it doesn't match accepted practice.

The productive asset IS accounted for in the income/revenue... surely?

If it is not producing revue then it is clearly not productive.

You owe $100k, but you also have something of value (worth approximately $100k when the lease was entered, but should be adjusted for transaction costs of subleasing). Over time, your payments reduce the debt (this balances out), but the asset also reduces value, which reduces your overall balance. Adjustments for marketability of the leased property should also be made.

If the property isn't marketable, maybe the current asset value is $0, but that's rarely the case.

Hmmm... it seems to me to be identical to how home owners have a mortgage and home value as two separate debt vs value measures.

But what your describing doesn't happen in they way you're describing for home owners why should it for someone leasing a property?

My take on the comment: Compare to a family that takes out a loan to buy a house. If you ask their net-worth it's not just money in the bank, you have to subtract the debt that they owe. Parent comment was saying that you need to add the value of the home back in as well. It's a little different with leased property, but there may be some validity to the comparison. My analogy is not the same - a family with a mortgage will eventually get rid of that monthly payment and own the home. A family renting is not going to achieve the same thing. In the same sense I disagree with the comment - the property leased is not an asset, but it does have some value or it wouldn't be leased in the first place.

OTOH the article mentions that for a while companies liked to sell and lease-back which allowed them to appear to have cash even though the cash didn't have anything to do with business activities.

A lease or rental agreement can be valuable depending on the terms.

An example: my mother managed to significantly negotiate down her commercial lease after a court case with her landlord.

The price that she now pays is significantly below market rate. It’s also locked in for the next decade or so. That lease is quite valuable.

The same is true for rent controlled apartments. I have had one in San Francisco for the last 5 years and pay significantly below market rate.

What word in the comment is difficult to understand?

I am also confused as to what having a Ph.D. has to do with your ability to understand concepts in what I am assuming is a completely unrelated field?

A Ph.D. signifies advanced knowledge in a particular subject, not a generalized superior ability to understand unrelated concepts.

He said if you are going to count the monthly rent against a renter, you have to count the value of the place to live too.

You probably shouldn't be unless your PhD is in Accounting or Finance.

I see what you did there ;)

It’s absolutely astounding how much people think a phd means.

Fwiw all you need is an ability to google. You can find google at https://google.com.