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Do privately-owned companies need to use the new lease accounting? December 27, 2010

Posted by Bob Cook in Financial Planning & Analysis, Lease Accounting.
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Would Scrooge & Marley have to use the new lease accounting?

This is a question I am often asked.  It’s a good one.  The accounting clearly applies to publicly-owned companies.  They are regulated by the SEC (in the U.S.) which requires the use of GAAP (i.e. generally accepted accounting principles) of which the new lease accounting will become part.  But, what about non-public companies?

Some private companies may choose to ignore the new lease accounting; in fact, some already ignore GAAP altogether.  A small family business … to the extent it keeps books at all … may choose to use any accounting rules it likes …. or at least as long as the family members agree.  For larger companies, though, particularly those with non-familial owners, accounting needs to be more sophisticated; many, perhaps most, will want to apply the new standard.

The reason: If the company needs to provide financial statements to anyone for any purpose, it probably needs to use GAAP in all its aspects, otherwise the party receiving the financial statements won’t be able to interpret the meaning of the financials.   To be more specific, if a company needs to show financials to a bank to borrow funds or to a customer to prove its ability to perform a contract or to partners to show how well the company is doing, then the company probably needs to apply the new lease accounting standard.

I stick in the word “probably” because there may be some companies that are thought to be so sound financially that they are able to be cavalier about how they prepare their financial statements. Also, some companies in some industries, notably real estate investment, feel that GAAP doesn’t really describe the financials of their business well and they use a modified GAAP.  In those situations, the new lease accounting will probably be ignored.   For any company that uses GAAP, though, they’re going to have to use the new accounting.

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Comments»

1. Michael VanderGoot - December 28, 2010

Bob,

In addition to companies that must report due to bank requirements there may be other times as well. If a company has signed a lease and the lease states the tenant must provide financial statements on a GAAP basis. This is where tenants and lawyers sometimes do not focus. These small provisions in a lease can sometimes have big impacts.

Another time is when a growing company is considering going public or seeking venture capital. They will need to change their method of accounting.

2. Richard L. Podos - December 28, 2010

Add in virtually any form of government contracting.

3. Bob Cook - December 28, 2010

Thanks to Michael and Richard for adding a few more reasons why a private company might want or need to do its accounting according to GAAP, which would require that they apply the new lease accounting. There are probably many more reasons as well.

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