The Dark Art Meets The Balance Sheet
January 2019 will see the new accounting regulations IFRS16 come into force. In simple terms, this means that companies must reveal the full cost of leasehold property obligations in their annual reports.
Up until now, a company does not have to disclose such details, or think too much about how this would affect the way other stakeholders see it’s financial strengths. Businesses simply don’t have to think about a lease in such context. A Finance Director can tell stakeholders; “Yes, we do have a 5-year lease that commits the company to £5m, but that’s not going to appear on our balance sheet”. It’s the financial equivalent to a ‘nothing to see here’.
Under the new regulations it is no longer good enough to simply detail annual rents. Occupiers will have to record leases as long-term liabilities – as well as assets. This means that anyone from either within or outside of a business will be able to scrutinize their balance sheets much more deeply than ever before.
The impact of the new regulations will mean that all companies that lease properties to operate their businesses will see a substantial increase in reported assets and liabilities. Recent speculation is that UK occupiers may need to add as much as £200bn of liabilities to their balance sheets!!
Clearly the new regulations will hit large companies with significant leasehold property portfolios the hardest. Public companies will be especially under scrutiny as they will be obliged to produce a lot of detail in their accounts.
So what does this mean from a dilapidations perspective?
Firstly, it’s more important than ever for occupiers to carry out effective and detailed due diligence upon entering a lease to ensure that they are not taking on onerous lease terms.
Savvy occupiers will then keep an accurate accrual to cover dilapidations throughout the term of the Lease. For example, as soon as any alterations are undertaken to a property, there would usually be an obligation to reinstate at the expiry of the lease. The cost associated with the reinstatement therefore becomes a ‘known’ future liability and should form part of the dilapidations provision against the property. Likewise, most leases contain express covenants to redecorate immediately prior to the end of the lease and hence this cost should be allowed within the accruals.
AG are recognised Dilapidations experts, having been involved in a number of high profile and complex Dilapidations cases over the years. These new regulations, however, mean that dilapidations should be on the radar of occupiers throughout the term of any lease, not just at the end when a dilapidations claim becomes reality.
We have recently advised a number of large commercial occupiers in the retail and industrial sectors so that they are geared up ready for the introduction of the new regulations. We champion a proactive approach and urge all occupiers to make sure that they have a handle on their dilapidations liabilities at all times so as to take the stress out of the situation and enable you to get on with your business!