Lease Compliance Impacts Commercial Real Estate Brokers and Investors
We’re in the middle of our first trimester, as ASC842 compliance D-Day is less than 260 days out, and compliance-seeking businesses are at a fevered pitch, looking to achieve compliance in the midst of a global pandemic with a remote workforce.
Although we are all cautiously optimistic about the future business landscape, we are each a bit more grounded, as we prepare for the end-of-year push. ASC842 Lease Compliance – Investor and Broker Influence is a reminder that it takes a village to achieve compliance and, that in times of need – we need to reach out to those who can help us to efficiently meet our business objectives, increase our valuation potential and provide business agility to pivot, post-Covid.
Investors are very interested in compliance, as it has a level of complexity that is hard to ‘unpack’, so estimating costs and timing around achieving compliance, is almost impossible – which creates ambiguity from a valuation perspective. Investors desire certainty, as risk and uncertainty create liability – which slows down acquisition/divestiture momentum and limits business agility. Investors are looking for a transaction, not a project – so compliance is highly attractive, which is why the ASC842 compliance mandate is under such scrutiny.
Power of the tribe – to help reduce risks associated with lease accounting, many real estate brokers are partnering with investors/private equity, to help align lease compliance with buyer expectations – helping investors to avoid projects, that have a much longer runway and potential for having unforeseen circumstances delay a potential lease arrangement or business sale.
Hidden Cash Preservation Opportunity
The golden goose here is the renegotiation opportunity that lies within the historical lease that is being audited in the quest for compliance. With the Covid moratorium prohibiting evictions, and commercial tenants being allowed to pay 50% of existing lease costs through the pandemic, the deferred rent balance is bulging with accrued rent payments and will be due within 30 days, once the Covid moratorium is lifted. The enormous pandemic incurred debt is going to come due, which will force action – whether it be in the form of tenant evictions, rental concessions or simply having tenants walk out on their financial obligations. No matter which ‘cure’ to the rental debt tenants decide upon, the market impact is going to be a flattening of FMV, for commercial lessors. The impact of this is going to be – opportunity, for those who have the financial wherewithal, to negotiate terms that provide lower monthly costs/liabilities, which will be a lessee trade-off for a long term commitment, as investors look to lock in long term revenue and reduce vacancy risk to their properties.
There is also speculation that the new compliance mandate will force a business consolidation that will actually provide a scale that yields cost savings in resource consumption as well as in the integration of lease liability into balance sheet benefits There are far too many variables to come to this conclusion on a large scale, but the ability to organize lease portfolios, audit lease specific terms, and to renegotiate existing lease do offer the hope that the migration to a new subscription, maybe at least partially funded. Public firms have more than $3 trillion in off-balance-sheet leases, according to estimates from the International Accounting Standards Board.
Feather in the Hat – Broker Perspective:
Brokers have a multi-faceted interest in the lease compliance initiative: First and foremost, they care about being paid by lessees on a timely basis, so having the ability to get tenants onboarded with a working lease accounting solution – with an auto-pay mechanism, is highly preferred. Second, the ability to automate the accounting, administration, and management of a lease is so desirable, that it may open up additional lessee tenant options, including Tenant Improvement concessions, lower IBR, subleasing flexibility, rooftop and advertising options – all of which can financially improve the position of the tenant, and add to broker commissions.
The broker controls the relationship with the tenant and sets the terms for the relationship. As previously mentioned, getting tenants that are compliant and can pay automatically is a huge benefit to the broker community. ASC842, Lease Compliant tenants create additional broker benefits, specifically with the investor community, as investors are looking to minimize costs, so flexible brokers who are willing to make concessions around the term, cost, TI and potentially trade rent for shares, create a “pro-acquisition” environment that many investors/Private Equity seek.
Brokers are now rapidly becoming deal makers, as the realization of this newfound power becomes more market-relevant. Brokers are forming partnerships with Lease Management firms, such as Leaseology – so that they can ensure their tenants do not only respond to their financial obligations but also are ‘packaged’ to ensure that investors can come in and perform due diligence in a quick, efficient manner – so that valuation can be determined without a huge backlog of compliance projects, which basically eliminate companies from the Private Equity radar. The growing trend in lease management is to build in an equity offset for new tenants, to help create a company runway to an exit strategy, which provides a revenue model that helps provide the flexibility to brokers needed, in order to be flexible with terms/investors.
The diagram below is the Leaseology service funnel, and we will use this model to help identify areas of benefit to brokers, as they leverage Lease Managed Services to attract lessees/equity for a future exit – which is a new revenue channel for lessors:
- Immediate Lease Compliance – Multi-faceted benefits: ‘Packaging’ Achieved, so PE firms will be watching, adding security to the payment schedule, as well as potential new tenants, new revenue model comes into play, and lastly, compliance penalties will be avoided. Also – demonstrates business acumen of taking this large business distraction off the table.
- Critical Date Notifications – Automation of payments, which means broker/landlord/lessor gets paid on a predictable and timely basis.
- Lease Administration – Ensures ongoing compliance, security, process efficiency in addition to avoiding an ongoing manual business distraction.
- Disclosure reporting – Assures financial reporting accuracy, supports the
- compliance mandated requirements and flows downstream onto the balance
- sheet, so broker/landlord/lessor can see financial health real-time.
- Technical Accounting – this is where the biggest risk lies, EBITDA ingestion and SOC1 reporting. Without expertise in this area, all financial data/the potential lessee’s financial position is subject to audit interpretation – which nobody wants to go through – nor maintain on an ongoing basis.
- Lease negotiations – What market opportunities are there available to your company, right now? Time is ripe to reduce rental costs, sublet – lot’s of opportunities to improve cash position. Brokers are partnering with Lease Management firms, who have FMV awareness and Negotiation experts – helping brokers to maximize commissions and fees.
- Document Management – An organizational checkbox. If a lessee doesn’t know where ALL their leases are physically/Digitally stored – red flag, broker beware. If this simple, common sense item is in a disorganized state – drive on, and get a lessee/tenant who understands the benefits of the organization.
Learn more about lease management migration to managed services.
Feather in the Hat – Broker Payday:
Speaking about broker commissions, the following diagram depicts the ASC842 lease accounting around the broker commissions and how they are treated by the new lease accounting mandate:
Why are Brokers recommending Lease Management Firms?
Agility is based on business options and profit. Brokers working in the new lease accounting paradigm, are seeking Investor/PE attention, and the way they achieve this is through successful business relationships (Leases). Recommending a Lease Management firm (Leaseology), helps brokers to ensure success, thus creating options around investments, new business and potential equity plays – all of which are desirable by the broker community.
ASC842 ASC842 Lease Compliance – Investor and Broker Influence
Key Takeaways
- The Broker market is largely untapped, from a PE and Lease Management perspective. Partnering with Brokers who have a strategic perspective is a trending approach that is rapidly growing.
- Brokers are important and can help Lessors/Lessees with finding the right Real Estate, Equity, and Managed Service provider – as speed is the goal, for flexibility, agility, and profit
- No reason to do this on your own. A stubborn, DIY approach will result in a negative exit. This compliance initiative is not for the faint of heart, get experts, get help, be successful.
- Call Leaseology, we can take the sting out of this complex compliance obstacle
Leaseology understands what internal lease accounting teams are up against, and has built an end-to-end solution that allows customers to divert resources, remove cost, increase accuracy/locate cost savings opportunities – all while achieving compliance via an outsourced lease management process. The following six pillars of success are the core of the Leaseology service offering, and we are confident that our combination of industry expertise in lease accounting, compliance, reporting, and automation can help you meet the ASC842 compliance requirements.
Leaseology, Inc is a North America-based business advisory services firm committed to accelerated marketplace adoption of digital technology, financial management innovation, and business operations practice excellence. These core competencies apply to real estate and equipment portfolios.
