Effects Analysis International Financial Reporting Standard®

1 January 2016. Effects Analysis International Financial Reporting Standard . IFRS 16 Leases This Effects Analysis accompanies, but is not part of, IFRS 16. What is the purpose of this Effects Analysis ? This Effects Analysis describes the likely costs and benefits of IFRS 16. The costs and benefits are collectively referred to as Effects '. The International accounting Standards Board (IASB) gains insight on the likely Effects of new or revised Standards through its exposure of proposals, and through its Analysis and consultation with stakeholders. This document describes those considerations. The document discusses the Effects of IFRS 16 mainly from a lessee perspective. This is because the accounting for a lessor is largely unchanged. The Effects of IFRS 16 on lessor accounting are discussed in Section 9 of the document. Background IFRS 16 supersedes IAS 17 Leases (and related Interpretations) and is effective from 1 January 2019. The IASB and the US national standard-setter, the Financial accounting Standards Board (FASB), have been working jointly to improve the accounting for leases in International Financial Reporting Standards (IFRS) and US Generally Accepted accounting Principles (US GAAP).

2 IFRS 16 completes the IASB's project to improve Financial Reporting for leases. 2 | Effects Analysis | IFRS 16 Leases | January 2016. Executive Summary The IASB has developed a new Leases Standard, IFRS 16, Previous lessee accounting The need for change which supersedes IAS 17 Leases. The IASB worked jointly IAS 17 as well as FASB Topic 840 Leases focused on with the FASB on this project. The FASB expects to In 2005, the US Securities and Exchange Commission identifying when a lease is economically similar to publish its new Leases Standard in early 2016. (SEC) estimated that US public companies may have purchasing the asset being leased (the underlying A company1 is required to apply IFRS 16 from 1 January approximately US$ trillion of off balance sheet asset'). When a lease was determined to be 2019. A company can choose to apply IFRS 16 before leases. Responding to concerns about the lack of economically similar to purchasing the underlying that date but only if it also applies IFRS 15 Revenue from transparency of information about lease obligations, asset, the lease was classified as a finance lease (referred Contracts with Customers.)

3 The IASB and the FASB initiated a project to improve to as a capital lease' in US GAAP) and reported on a The IASB and the FASB have reached the same conclusions the accounting for leases. To meet this objective, the company's balance sheet. All other leases were classified in many areas of lease accounting , including requiring IASB and the FASB agreed that a customer (lessee) as operating leases and not reported on a company's leases to be reported on the balance sheet, how to define a leasing assets should recognise assets and liabilities balance sheet (they were off balance sheet leases'). Off lease and how lease liabilities are measured. The IASB and arising from those leases. This is because at the start balance sheet leases were accounted for similarly to the FASB also both agreed to substantially carry forward of a lease a lessee obtains the right to use an asset for service contracts, with the company Reporting a rental the previous lessor accounting requirements.

4 However, for a period of time and, if payments are made over time, expense in the income statement (typically the same some leases, the IASB and the FASB have reached different incurs a liability to make lease payments. Contrary amount in each period of the lease a so called straight- conclusions about the recognition and presentation of to that view, most leasing transactions were not line lease expense). expenses related to leases in the income statement and of reported on a lessee's balance sheet applying previous cash flows in the cash flow lease accounting requirements. The significance What changes in a company's balance sheet? of the missing information varied by industry and IFRS 16 eliminates the classification of leases as either region and between companies. However, for many Lessee accounting has changed substantially. operating leases or finance leases for a Instead companies, the effect on reported assets and Financial There is little change for lessors.

5 All leases are treated in a similar way to finance leverage was substantial. The absence of information leases applying IAS 17. Leases are capitalised' by about leases on the balance sheet meant that investors recognising the present value of the lease payments and analysts were not able to properly compare and showing them either as lease assets (right-of-use companies that borrow to buy assets with those that assets) or together with property, plant and equipment. lease assets, without making adjustments. If lease payments are made over time, a company also recognises a Financial liability representing its obligation to make future lease payments. 1 In this document the term company' refers to any entity that prepares Financial statements applying IFRS, or in some cases US GAAP. 2 See Section 8 Effects of differences between IFRS and US GAAP. 3 See Section 2 Changes to the accounting requirements. Effects Analysis | IFRS 16 Leases | January 2016 | 3.

6 The most significant effect of the new requirements will What does IFRS 16 mean for a company's IAS 17 /. be an increase in lease assets and Financial IFRS 16. income statement? Topic 840 / FASB model Accordingly, for companies with material off balance For companies with material off balance sheet leases, Finance Operating All sheet leases, there will be a change to key Financial IFRS 16 changes the nature of expenses related to those leases leases leases metrics derived from the company's reported assets and liabilities (for example, leverage ratios).5 leases. IFRS 16 replaces the straight-line operating Revenue x x x lease expense for those leases applying IAS 17 with Operating IAS 17 / IFRS 16 / a depreciation charge for the lease asset (included costs (excluding Single FASB model6 within operating costs) and an interest expense on the --- --- Topic 840 depreciation and expense lease liability (included within finance costs). amortisation).

7 Finance Operating All This change aligns the lease expense treatment for all leases leases leases leases. Although the depreciation charge is typically EBITDA . even, the interest expense reduces over the life of the Depreciation . Assets --- lease as lease payments are made. This results in a and Depreciation --- Depreciation reducing total expense as an individual lease matures. amortisation The difference in the expense profile between IFRS 16 Operating Liabilities $$ --- $$$$$$$. and IAS 17 is expected to be insignificant for many . profit companies holding a portfolio of leases that start and Off balance Finance costs Interest --- Interest end in different Reporting sheet rights / --- --- obligations $$$$$ The income statement treatment applying IFRS 16 for Profit before . former off balance sheet leases also differs from the tax Are there any exemptions? treatment applying the FASB model for those leases. This is because the FASB model is designed so that Who will be affected by the changes?

8 Yes. IFRS 16 does not require a lessee to recognise assets expenses related to those leases are reported typically Off balance sheet lease financing numbers are and liabilities for (a) short-term leases (ie leases of on a straight-line basis and are included within substantial. Listed companies using IFRS or US. 12 months or less) and (b) leases of low-value assets (for operating costs. GAAP disclose almost US$3 trillion of off balance example, a lease of a personal computer).7. sheet lease commitments. For almost half of listed companies using IFRS or US GAAP, amounts recognised are expected to be affected by the changes in lease Some industry sectors will be more affected than others. 4 See Section Effects on the balance sheet. 5 See Section Effects on key Financial metrics. 6 In this document FASB model' refers to the decisions of the FASB as at 31 December 2015. 7 See Section Key cost reliefs. 8 See Section Effects on the income statement.

9 9 See Section 3 Companies affected by changes in lessee accounting . 4 | Effects Analysis | IFRS 16 Leases | January 2016. Many smaller unlisted companies are not expected to The demand for assets changes only if there are changes (b) improve comparability between companies that lease be directly affected by IFRS 16 on the grounds that (a) to the economy, technology or the way companies assets and companies that borrow to buy the IFRS for SMEs has not been changed by IFRS 16 and operate their businesses. In other words, changes to (c) create a more level playing field in providing (b) a limited number of smaller unlisted companies are accounting do not create or reduce the demand for transparent information about leases to all market required to apply full IFRS. assets. Accordingly, the IASB does not expect IFRS 16. participants. A company will more accurately to change the overall need for assets by companies. Will IFRS 16 affect the cost of borrowing measure assets and liabilities arising from leases However, the IASB acknowledges that the change in applying IFRS 16 as compared to the estimates made and debt covenants?

10 Lessee accounting might have an effect on the leasing by only more sophisticated investors and analysts market if companies decide to buy more assets and, as The change to lease accounting does not affect a when companies applied IAS 17. a consequence, lease fewer assets. The IASB observed company's economic position or commitments to that there are many reasons why companies lease assets pay cash, which are typically already considered by IFRS 16 is expected to facilitate better capital that will continue to exist after IFRS 16 is effective. lenders. Accordingly, the IASB is of the view that allocation by enabling better credit and investment Consequently, the IASB does not expect significant any changes to the cost of borrowing following the decision-making by both investors and companies. behavioural changes when IFRS 16 is effective (ie a implementation of IFRS 16 will result from improved company is not expected to systematically borrow to The significance of the implementation costs depends decision-making, which will in turn be the result of buy assets, rather than leasing them, as a result of the on the size of a company's lease portfolio, the terms improved transparency about a company's Financial change in accounting ).