IFRS 16 compliance: incremental borrowing rate calculations driven by digital transformation
A significant change in lease accounting practices is a few months away: all lessors and lessees will have to be compliant with IFRS 16 standards from the start of their next fiscal year (1st of January 2019 or later).
Under the current IAS 17 standards, lessees classify 85% of their leases as operational leases that are not reported on the balance sheet. Under IFRS 16, it will become mandatory to put most of these leases on the balance sheet. Therefore, the new standards impact many key financial metrics for lessees. The fair value that will be posted on the balance sheet is determined by discounting the lease payments on a lease-specific basis. Under IFRS 16, the applicable discount rate for most lessees will be the Incremental Borrowing Rate (IBR). The IFRS 16 guidelines define the IBR as “the rate of interest that a lessee would have to pay to borrow over a similar term, and with a similar security, the funds necessary to obtain an asset of a similar value to the right-of-use asset in a similar economic environment”.
Leveraging expertise to determine the incremental borrowing rate
Zanders leveraged its experience in credit rating and loan pricing to develop a best-practice methodology to calculate the IBR. The IBR can be determined from its five building blocks: (1) the creditworthiness of the lessee, (2) the term of the lease arrangement, (3) the amounts, (4) the security granted to the lessor and (5) the economic environment (the jurisdiction, date and currency). The credit rating assessment calculates an initial standalone lessee credit rating from the balance sheet and profit and loss statement of the last three years. This assessment is complemented with qualitative information such as country risk, industry risk, business risk and group support. The pricing assessment maps the risk profile of the lease to the credit margins in the secondary bond market and makes comparability adjustments where necessary. Using this approach, Zanders is able to calculate the IBR for a wide range of maturities, types of underlying assets (such as property, vehicles, etc.) and currencies.
Process automation to ensure efficiency and compliance
These processes are captured into a new SaaS tool which is available on our Zanders Inside TM platform. The IFRS 16 tool enables the user to calculate a lease-specific IBR. By introducing this solution Zanders eliminates complex, error-prone and time-consuming processes by focusing on user-friendliness and compliance. Our clients simply need to specify the characteristics of the lease and upload the financials of the lessee using a template. Our tool will then calculate the unique IBR for the lease. For audit purposes, the result will be documented with an IFRS 16 report outlining the methodology of the tool as well as the lease-specific calculations.
Are you curious to see how our solution works in practice? Please contact us via email@example.com or our Zanders Inside TM website for a presentation and a live demonstration of our tool.