When companies start to follow new lease accounting rules, like those in ASC 842 and IFRS 16, they face several important challenges. These rules require businesses to show almost all leases on their balance sheets. This changes how financial statements look.

1. Data Gathering and System Integration

One of the biggest challenges is collecting a lot of data. Companies need to gather information on all leases they have—both the old ones and the current ones. This means they have to:

• Find all lease agreements: Many businesses may have leases spread out across different areas, making it hard to see everything at once.
• Know the details of each lease: This includes payment plans, renewal options, special conditions, and any hidden leases in service contracts.

Once all the lease information is gathered, companies also need to put this data into their accounting systems. They might have to buy new software or upgrade their current systems to handle complex lease calculations and reports according to the new rules.

2. Financial Statement Impact

Another hurdle is how recognizing leases on the balance sheet can change financial numbers. For example:

• Debt Ratios: When lease liabilities are added, overall liabilities go up, which can hurt ratios like debt-to-equity and return on assets. Companies need to be ready to explain these changes to investors.
• Earnings Management: The new lease rules can lead to ups and downs in earnings before things like interest and taxes (known as EBITDA). Lease payments are classified differently now. This may require companies to reconsider how they share their earnings with the market.

3. Change Management and Training

Switching to new accounting practices takes time and effort in managing changes and training employees. Workers need to:

• Learn the new rules: This means they need training on how the new accounting rules affect their current processes.
• Adjust to new workflows: Employees involved in lease agreements, accounting, and reporting need to change how they work, which might temporarily disrupt things.

For example, a retail company used to its usual lease agreements now has to think differently about these leases. This could lead to challenges in budgeting or pricing their products.

4. Compliance and Audit Considerations

With any new accounting rules, making sure everything is compliant is very important. Businesses have to be sure they are following the new guidelines to avoid any penalties.

• Internal Controls: Companies need to review and possibly change their internal controls for managing leases and financial reporting.
• External Audits: Getting ready for audits under the new rules can be tough. Companies need to give auditors clear and complete documents for their leases and the calculations involved.

5. Transitional Challenges

Finally, companies have to deal with the transition period where they are managing both the old and new standards. This dual reporting can be tricky, and they must keep track of everything to avoid confusion about which standard they are using.

In summary, while the new lease accounting rules can help make financial reporting clearer, getting there has its challenges. Companies need to tackle these issues head-on to have a smooth transition that helps everyone involved and supports their financial health.