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Retail Earnings May Be Impacted By Transitioning To New ASC 842 Lease Accounting Standard

Retail earnings may be impacted by transitioning to new ASC 842 lease accounting standard

The new ASC 842 lease accounting standard was designed to produce very little, if any, impact on corporate earnings. However there is an exception that could make a big difference for many retail and restaurant companies.

“Sale and leaseback” transactions, which are sometimes used to monetize corporate real estate portfolios, must be treated differently under the new lease accounting rules. Since retailers are traditionally more likely to utilize these transactions, they are also more likely to see noticeable changes in earnings.

What is a Sale and Leaseback Transaction?

A sale and leaseback transaction occurs when the seller transfers an asset to the buyer, and then leases the asset from the buyer. In this type of transaction, the buyer (or lessor) is typically a finance company or institutional investment organization. Companies use sale and leaseback transactions to free up cash tied up in assets like property, despite still needing to occupy the space.

In the past, many companies structured these arrangements as operating leases, with the goal of keeping the property values and the associated liability off balance sheet. Depending on the lease terms, the arrangement may have even been cheaper than financing the property purchases with bank loans. Because ASC 842 now requires virtually all leases to be recorded on the balance sheet, the off balance sheet advantage of these arrangements no longer exists.

What’s changed under ASC 842?

Under previous lease accounting rules, a sale leaseback transaction may have generated a deferred gain to be recorded as an offset to future rent expense. However during transition to ASC 842, companies may need to record such gains to equity immediately and essentially lose a monthly credit to rent expense going forward. This “true-up” can move the needle on earnings per share for many retailers.

Recent examples related to the impact of sale leaseback transactions

Bloomin’ Brands, owner of several popular restaurant brands including Outback and Carrabba’s, decreased EPS by $0.02.

Fiesta Restaurant Group, owner of the Pollo Tropical and Taco Cabana brands, reported ” a significant impact on our results of operations because we had $18.6 million in sale-leaseback gains from which we no longer receive a benefit to rent expense.”

Furniture Retailer Haverty’s reported a $6.8 million adjustment to equity related to adopting the new leasing standard, due in part to de-recognizing the gain on previous sale leaseback transactions.

Brinker International, known for its Chili’s and Maggiano’s Little Italy brands, is expecting “to de-recognize the deferred gain from the sale leaseback transactions” in the amount of $269.4 million upon adoption.

CoStar has helped hundreds of corporations – including retailers and restaurants – transition to the new ASC 842 standard with our enterprise lease accounting software and services. Contact us today to learn more and be sure to see more helpful news and information in our resources blog.