IFRS 16 Lease aspects -2-

This is the second report on IFRS 16 Lease aspects following two recent articles examining the impact of the introduction of IFRS 16 on European companies.

The first report can be found here.
A number of IFRS 16 Lease aspects are discussed in more detail in a series of articles. The information relates to non-financial companies, which are obliged to apply IFRS regulations; we are therefore expressly talking about large and listed companies.

The articles in question are open source and therefore freely accessible and cover a total of 72 audited financial statements of companies, 43 of which are non-Dutch companies. The articles are in Dutch; for the record, the links to the articles are available in the first report.

While the first article was about “small and insignificant”, in the coming articles we will work towards one of the most complex parts: the marginal interest rate. However, we start with one of the first fundamental choices that a company has to make in the transition to IFRS 16: what method of transition do we use?

General principles

The introduction of (International Financial Reporting Standard) IFRS 16 Leases has created a new category of asset in the financial statements: the right-of-use asset.
There are two options for determining the starting value of this new asset at the start of the reporting obligation under IFRS 16:

  • the current leases are recalculated from their inception on the basis of the rules of the new standard, the so-called full retrospective method, or
  • the current leases receive a new value at the start of the new standard, the modified retrospective method, according to an ingenious calculation method: The asset side is derived from the obligations entered into by the company (the contractual lease instalments), which are adjusted for the marginal discount rate in the total of these lease instalments.

There are drawbacks to both methods, but in any case the principles of ‘transparent and comparable‘ envisaged by the regulator, as will be seen below, are permanently violated.

Results of research

Seventy-two companies have been investigated in the articles referred to. Of the companies surveyed (n=9) 13% use the full retrospective method. In other words, 87% (n=63) of the companies did not opt for the administratively most clear method, with good reason, as indicated below.

The survey also shows that no consistent choice was made within a particular sector of the economy. This alone leads to different results over many years.

The possibility of two different starting methods in the regulations came about under pressure from, as is also shown by the percentage of 87%, the majority of enterprises, which simply had no resources, time or information back to the beginning of the lease periods; think of renting parts of (office) buildings, factory buildings, etc.

Reason for the small percentage of 13% for the application of the full retrospective method:
(i) high implementation costs (going back years in the archives),
(ii) having to show comparative, adjusted, figures for 2018 and
(iii) the treatment of the cumulative difference between old and new calculation methods in (opening) equity.

It has been argued from various quarters that IFRS 16 reporting is providing clarity about the lease transactions entered into. Inclusion in the balance sheet would lead to a stricter assessment of the relevant transactions by auditors and would provide a better insight into the actual financing situation of a company.

One of the remarkable findings is that (by coincidence?) for both Dutch and non-Dutch companies, the average marginal discount rate was 3.2% for the 63 companies that applied the modified retrospective method.

This outcome suggests a high degree of uniformity. However, the only thing that we are certain of is that the discount rates of all these companies have been determined as per 1-1-2019, the starting date of their reporting under IFRS 16. Nevertheless, we can use this uniform rate, albeit purely theoretical, to show that there is no comparability between companies.

The studies show that the impact on total debt as a result of the introduction of IFRS 16 is €156,041 million for these companies. Let us combine this given ‘liability value’ with the average marginal discount rate of 3.2% and assume that the value of assets is set at the same amount (as is often the case in practice).

Even then, we do not know the maturity distribution of transactions. For example, is there a fleet of 100,000 vehicles, at an average book value of €22,500, in addition to office, production and warehouse facilities of €50,000 million and a residual amount for machinery? For example, with maximum durations of 4, 25 and 8 years? And are all these assets at half their economic (and lease) term as of 1-1-2019? Even the best-in-class companies surveyed do not provide this information. Transparency is therefore not achieved.

To the extent that the above uncertainties become clear and result in the aforementioned amount of € 156,041 million, this outcome is still the result of ‘current per 1-1-2019’ marginal discount rates.

We know that between 13 January 2016 (the publication date of the IFRS 16 standard) and 1 January 2019 (the final date of application) interest rates decreased worldwide.

Assume that the weighted portfolio has a remaining maturity of 10 years; see table 1.

A 1%-point higher interest rate itself results in a difference of (rounded) € 7,500 million in the valuation. Quite correct in itself, but the consequences are considerable: the depreciation costs are € 750 million lower during a 10 years period. For the same assets.

The above observation is not purely theoretical. The studies have shown that the population of companies has used different marginal discount rates of between 0.8% and 7.2%. Needless to say, in practice, comparability between companies will be hard to find.


Please note that in the tables provided, unlike in the text, presentation of digits follows the European method, reversing dots and commas.

Now suppose that the outcome of € 156,041 million does not relate to an average remaining term of 10 years, but to 7 years. It is known that rented real estate, in amounts by far the largest element responsible for the increase in balance sheet totals, has quite different tenors between companies.

In that case, the annual depreciation amounts would not, at 3.2% interest, be € 15,604, as shown in Table 1, but € 22,292.

The difference between the straight-line calculated amounts is significant and purely due to the actual circumstances, being the remaining term. Better transparency may only be expected if – after years – an ideal complex of investments is created. But even then, insight into the composition will be limited.

Oil rigs, transportation vessels, container ships, warehouses, etc. are not comparable to machine equipment or leasehold improvement and rented office space.


In addition to the above picture of little transparency, there is another fact that occurs in practice: inflation over the years, results in rising (purchase) prices.

This phenomenon also occurs in the case of ‘ordinary’ owned assets, but the fact is that comparability between different regions and jurisdictions in the world, is completely disrupted.

Table 3 shows the effect of a theoretical annual inflation rate of 2%.




The standard IFRS 16 Leases issued by the (International Accounting Standards Board) IASB in January 2016, which is mandatory for large, listed companies as from 2019, contains a multitude of rules compared to the ‘old’ standard (IAS 17), but does not achieve the intended transparency and comparability.

Painful, because it was precisely the lack of clarity of financial obligations, which are (or would be) hidden in operational lease transactions, that prompted the large-scale amendment of the accounting rules on leasing.

Is the above a reason to ask for more information? We can also think of an old Dutch saying: Better to turn half way than to go astray altogether!