Dear,
As you know, world’s economy is constrained by two forces, limited growth and huge debt, which make capital scarce.
As a consequence, regulators have adapted the Accounting Standards to the requirements of this new economic environment, which is triggering a systemic transformation of the economy, from a model based in Volume, to a model based in Efficient Management of Capital.
We have discussed in the past, how Basel IV and IFRS 9 increase the recognition of the critical value of Capital in the new environment.
Today we will look at the new IFRS 16 Accounting Standard, which increases the visibility of the Cost of Capital in Leasing Contracts.
Traditional Nominal Accounting considers a Leasing Contract as an off-balance commitment, which is only represented in the accounting books at the time of invoicing. But commitments represent taking a risk which consumes Capital, and this Cost of Capital is not visible under Traditional Nominal Accounting. For this reason a new Accounting Standard has become necessary.
Regulators are very aware of the new economic system, constrained by Capital scarcity, and come with a new regulation for Leasing contracts
IFRS 16 postulates that the value of a Leasing Contract is determined by determining the current value of all the future expected Inflows and Outflows of the Leasing Contract (Fair Value).
The procedure for determining the Fair Value is analogous to other IFRS Accounting Standards (IFRS 9, IFRS 17) which discounting these expected Inflows and Outflows according to an Interest Rate, that represents the Price of the money without risk and a Spread representing the risk that the expected Inflows and Outflows do not become actual.
The calculation represents a huge technical challenge, as it represents the necessity of integrating flows of data from very heterogeneous sources, The key word is Integration, and this has been the main value proposition of SAP for the last 40 years.
In a typical scenario, the valuation of a Leasing Contract under IFRS 16 with SAP RE-FX requires managing 4 sources of Data.
- Invoicing Data.- The Leasing Contract manages the generation of Payment Flows from the Contract tenant to the Landlord. The Payment Flows are generated by the Contract Financial Conditions and used in the determination of the Fair Value of the Contract.
- Underlying Asset (Leased Asset) Depreciation.- The Capital associated to the Underlying Asset is committed to the Contract, at the moment of the Contract activation. On the other hand, the Depreciation costs of the Underlying Asset determine the Profitability of the Contract and the residual value of the underlying asset.
- Maintenance Costs of the Underlying Asset (Leased Asset).- The costs associated to the maintenance activities, necessary for keeping the Underlying Asset in working order during the contract duration, determine the Profitability of the Contract. Consequently the Planned Maintenance Costs of the Underlying Asset determine the Capital Committed to the Contract at the moment of the Contract Activation.
- Market Data.- Discount Interest Rate for determining the current value of the future Inflows and Outflows combine the Market Interest Rate without Risk for the maturity of the Leasing Contract, plus an Spread, representing the risk that the Actual Cash Flows do not match the Expected Cash Flows.
From SAP ECC release EhP6 upwards and S/4HANA, SAP provides a new functionality for Valuation of Flexible Real Estate Contracts.
Simplifying, the configuration has two elements:
1) Generation of the Expected Cash-Flows of the Leasing Contract with the functionality of the SAP RE-FX Financial Conditions.
2) Configuration of what Financial Conditions are taken into account in the valuation of the Leasing Contract and in which way.
As the Financial Conditions generate Cash-Flows payable by the Contract tenant, a new group of Statistical Financial Conditions have been included in the system. These Statistical Financial Conditions generate Cash-Flows that are not included in the invoice to the tenant, but can be included in the IFRS 16 Valuation.
For Instance.- The Maintenance Costs can be represented with Statistical Financial Conditions that will be taken into account by the valuation, without being included in the amounts payable by the Contract tenant.
The integration capabilities of the Plants Maintenance, Assets Accounting, Service Management, Profitability Analysis and Flexible Real Estate modules of SAP ECC and S/4HANA, support the reconciliation between the expected and actual Cash-Flows, the accurate valuation of the Leasing Contracts under IFRS 16 and full compliance with the new Accounting Standard.
Additionally, and this is critical in an environment of Capital scarcity, the holistic vision provided by the integration of the above modules, support the Optimization of the resources committed and allocated to the Leasing contracts, reducing the Capital consumption and maximizing the company sustained profitability.
Looking forward to read your opinions.
K. Regards,
Ferran.
www.capitency.com
Join the SAP Banking Group at: https://www.linkedin.com/groups/92860
Visit my SAP Banking Blog at: http://sapbank.blogspot.com/
Let's connect on Twitter: @FerranFrancesGi
Ferran.frances@capitency.com
As you know, world’s economy is constrained by two forces, limited growth and huge debt, which make capital scarce.
As a consequence, regulators have adapted the Accounting Standards to the requirements of this new economic environment, which is triggering a systemic transformation of the economy, from a model based in Volume, to a model based in Efficient Management of Capital.
We have discussed in the past, how Basel IV and IFRS 9 increase the recognition of the critical value of Capital in the new environment.
Today we will look at the new IFRS 16 Accounting Standard, which increases the visibility of the Cost of Capital in Leasing Contracts.
Traditional Nominal Accounting considers a Leasing Contract as an off-balance commitment, which is only represented in the accounting books at the time of invoicing. But commitments represent taking a risk which consumes Capital, and this Cost of Capital is not visible under Traditional Nominal Accounting. For this reason a new Accounting Standard has become necessary.
Regulators are very aware of the new economic system, constrained by Capital scarcity, and come with a new regulation for Leasing contracts
IFRS 16 postulates that the value of a Leasing Contract is determined by determining the current value of all the future expected Inflows and Outflows of the Leasing Contract (Fair Value).
The procedure for determining the Fair Value is analogous to other IFRS Accounting Standards (IFRS 9, IFRS 17) which discounting these expected Inflows and Outflows according to an Interest Rate, that represents the Price of the money without risk and a Spread representing the risk that the expected Inflows and Outflows do not become actual.
The calculation represents a huge technical challenge, as it represents the necessity of integrating flows of data from very heterogeneous sources, The key word is Integration, and this has been the main value proposition of SAP for the last 40 years.
In a typical scenario, the valuation of a Leasing Contract under IFRS 16 with SAP RE-FX requires managing 4 sources of Data.
- Invoicing Data.- The Leasing Contract manages the generation of Payment Flows from the Contract tenant to the Landlord. The Payment Flows are generated by the Contract Financial Conditions and used in the determination of the Fair Value of the Contract.
- Underlying Asset (Leased Asset) Depreciation.- The Capital associated to the Underlying Asset is committed to the Contract, at the moment of the Contract activation. On the other hand, the Depreciation costs of the Underlying Asset determine the Profitability of the Contract and the residual value of the underlying asset.
- Maintenance Costs of the Underlying Asset (Leased Asset).- The costs associated to the maintenance activities, necessary for keeping the Underlying Asset in working order during the contract duration, determine the Profitability of the Contract. Consequently the Planned Maintenance Costs of the Underlying Asset determine the Capital Committed to the Contract at the moment of the Contract Activation.
- Market Data.- Discount Interest Rate for determining the current value of the future Inflows and Outflows combine the Market Interest Rate without Risk for the maturity of the Leasing Contract, plus an Spread, representing the risk that the Actual Cash Flows do not match the Expected Cash Flows.
From SAP ECC release EhP6 upwards and S/4HANA, SAP provides a new functionality for Valuation of Flexible Real Estate Contracts.
Simplifying, the configuration has two elements:
1) Generation of the Expected Cash-Flows of the Leasing Contract with the functionality of the SAP RE-FX Financial Conditions.
2) Configuration of what Financial Conditions are taken into account in the valuation of the Leasing Contract and in which way.
As the Financial Conditions generate Cash-Flows payable by the Contract tenant, a new group of Statistical Financial Conditions have been included in the system. These Statistical Financial Conditions generate Cash-Flows that are not included in the invoice to the tenant, but can be included in the IFRS 16 Valuation.
For Instance.- The Maintenance Costs can be represented with Statistical Financial Conditions that will be taken into account by the valuation, without being included in the amounts payable by the Contract tenant.
The integration capabilities of the Plants Maintenance, Assets Accounting, Service Management, Profitability Analysis and Flexible Real Estate modules of SAP ECC and S/4HANA, support the reconciliation between the expected and actual Cash-Flows, the accurate valuation of the Leasing Contracts under IFRS 16 and full compliance with the new Accounting Standard.
Additionally, and this is critical in an environment of Capital scarcity, the holistic vision provided by the integration of the above modules, support the Optimization of the resources committed and allocated to the Leasing contracts, reducing the Capital consumption and maximizing the company sustained profitability.
Looking forward to read your opinions.
K. Regards,
Ferran.
www.capitency.com
Join the SAP Banking Group at: https://www.linkedin.com/groups/92860
Visit my SAP Banking Blog at: http://sapbank.blogspot.com/
Let's connect on Twitter: @FerranFrancesGi
Ferran.frances@capitency.com
