Accounting Standards And Theory For Woolworth Limited: Lease Arrangements And New Lease Accounting Standards – AASB 16

Description of the Current Lease Arrangements of Woolworth Limited

Discuss about the Accounting Standards and Theory for Woolworth Limited.

The company has decided to segregate the leases based on operational lease and financial lease. The company has classified the financial leases where the different types of lease transfers involves the transfer of majority of the risk and rewards the ownership to the lessee. As per the AASB 117 guidelines” Woolworth Limited may or may not include the gross investment, which is the aggregate of the minimum amount of lease payment disabled by the lessor as per the financial lease contract and any sort of un-guaranteed residual value accrued by the lessor (Wynder, Baxter, and Laing 2012).

As per the annual report analysis in the year 2016, the operating lease payments are considered as any other type of risk than the aforementioned criteria. The operating risk is recognized as per the “straight-line basis over the lease term”. The company further considers the increase in the fixed-rate to the lease rental payments and excluding the index based rental increases or the contingent rental increases. The company as per straight-line basis recognizes all these items over the lease term. The company further decides to categorize any liability or asset as a result of the difference between the amount paid and the lease expense brought based on the straight-line method. It further declares that the various types of operating lease incentives are initially recognized as a part of the liability and later on recognized under the lease expense, which is again calculated as per the “straight-line basis over the lease term” (Gaap.com.au. 2016). 

The recognition and measurement of the leases of the company is done as per the AASB 117 compliance. As per this guideline, the company will consider the commencement of lease term from the date when the lessee will be entitled to exercise the permission to utilize the least asset. Hence, it is considered as the initial recognition date of the leases. The subsequent measurement of the leases will be done based on apportionment of the reduction in the outstanding liability and financial charges. As per the AASB 117 guideline, the financial charge will be allocated during each financial period and considered the constant periodic rate on the unutilized balance of the liability. As per the paragraph, 25 of AASB 117 it has been stated charging of the contingent rents will be done as and when they are incurred. The measurement of the financial leases is further entitled to give rise to the deposition expense for the different types of depreciable assets for every reporting period (Dakis 2016).

Recognition and Measurement of the Leases

The presentation and the disclosure of the leases is done as per the AASB 117 and the company further declares that the group does not intend to adopt to the new standards of AASB 16 before it’s mandatory effective dates. It is further stated that the group is yet to assess full impact based on the disclosures related to AASB 16 conceptual framework (Woolworthslimited.com.au. 2016).

The “International Accounting Standards Board” has issued revised guidelines for lease accounting. The “Australian Accounting Standard Board” has also incorporated same standards equivalently. The new rules of AASB 16 will be effectively used by the reporting entities for the period on or after 1^st January 2019. Under the new rules, all leases except the “short term leases” along with the “low value” will be considered for accounting. Later this will be perceived in the statement of the financial performance of the entity.  For Lessors, under the new rule, certain changes need to be followed unlike the existing lease accounting in AASB117 leases. Although, the lease related to the operating and finance will represent distinctively like the earlier version of the lease accounting rules specified by the AASB. Specifically, the new standard needs lessees for the purpose of leases “on-balance sheet” by recognizing assets ensuring the “right of use” and liability of lease (Wong, Wong and Jeter 2016). 

Currently, the “right of use” of assets has not been considered along with the “lease liability” of the reporting entities at the end of the financial report. Thus, the entities faced a lot of challenges while calculating the operating and finance leases in the “balance sheet”.  According to Beckman (2016), the substantial impacts will be observed and the revised rules under section 16 of AASB will be followed while treating the property for leases and “high value equipments”.  The new rule of AASB 16 supersedes the existing standard of lease mainly in the area of interpretation and the definition of the lease (Dakis 2016). Most importantly, AASB16 ensures the requirement of the enhanced disclosures by which Lessors needs to be provided in the statements of financial performance. In this way, the reporting entity will improve their performance while disclosing information in relation of risk exposure of Lessors. For instance, AASB 117 is not disclosed the “residual value risk” at the end of the financial report and thus the existing standard compromised in the area of representation. On the other hand, lease , under the new standard of AASB 16 needs to represent the “right to control” that are applied for identifying an asset, such as a “floor of a building”. Furthermore, AASB 117 has not provided guidance on sale and the accounting of leaseback which are now included in the new standard of AASB 16. In a nutshell, the current accounting standard AASB 117 Lease have been modified and the new rules in the form of AASB 16 introduced to improve the reporting transparency. 

Presentation and Disclosure in Accordance with AASB 117

The overall application of the new rules of AASB 16 will have a considerable amount of material impact on the reported assets and liabilities of the group. The impact will be also seen in terms of the changes in financial ratios and the cost of implementation of new standards may be much higher than AASB 117 (AASB 2015). As per the new standard the distinction between the operating and financial leases will not be made. Moreover, Lessees will be able to bring the right use of the asset and the balance sheet will show the lease liability for all the leases. At present, the company’s operating leases and rental expenses is observed to be $ 2005.5 million, which is currently defined under the AASB 117 Leases, and hence this does not show any impact on the balance sheet of the company and the lease adjustment is shown only through the “Profit & Loss account”. As per the newer guideline, the operating leases will be capitalized on the balance sheet of the company (Woolworthslimited.com.au. 2016).

A major impact will be seen in terms of both increasing the assets and the liabilities of Woolworth Limited and furthermore the balance sheet may show an impact on covenants related to the Debt/equity ratio. Moreover, it has been observed that the P&L perspective of the consideration of the leases are done on straight-line basis under the older guideline of AASB 117. As the company set to implement the newer guidelines from 1^st January 2019 the treatment will result in both charging of interest and depreciation which will have an impact on the profit and loss account statement of the company. Despite the fact the preservation will be based on the straight-line method, the interest treatment will be significantly higher in the initial stages. This ratio and frontloading influence on the expenses in the P&L statement and result in overall reduction in the life of the leases (Moorestephens.com.au.2016).

The study undertaken in respect of the accounting standard provides the learning that rules relating to independence should be applied towards the application of auditor-client relationship and considers whether such rules should be modified for wools worth limited. To make such recommendations, the study provides that specific underlying provisions should be made in order to ensure that the auditor independence and confidence in the financial statement should consider the complicate accounting standards.

The study provides the guidelines that the company should take into the consideration the guidelines with respect to the materiality for the those financial statements which are issued previously. This is necessary because it enables the investors to have confidence in the capital markets by ensuring that it is not being adversely affected. It is noteworthy to denote that if an error of misstatement detected by Woolworths is not material prior to any financial statement however, the effect of correcting the error is not anticipated to relate with the material in respect to the current annual report. Under such circumstances, it is best recommended that Woolworths Ltd should consider the treatment to rectify the cumulative error in the existing financial statement with clear disclosure of items in the financial statements. 

The study provides Woolworth with the recommendations that it must formally encourage the company to undertake the objective based accounting standards. In addition to this, simplicity of objective based standard provide the ease of decision making regarding the usefulness of the financial statement for the investors. Such recommendations are supposed to have believe that this might serve as in increase in the competition of audit services. The study provides a faith that Woolworth’s subcommittee should modify the current reporting environment in order to reduce the burden of on the reporting entity of the company. In addition to this, ensuring such standards would help in improving the quality of financial reporting. 

It is further recommended that Woolworth should strengthen the procedure of internal control through appropriate auditing standards towards preliminary guidelines. Such recommendations helps in committing additional resources towards federal security regulations by fulfilling the general regulatory guidelines for periodic accounting reporting.

Reference List

AASB, C.A.S., 2015. Investment Property.

Beckman, J.K., 2016. FASB and IASB diverging perspectives on the new lessee accounting: Implications for international managerial decision-making. International Journal of Managerial Finance, 12(2), pp.161-176.

Dakis, G.S., 2016. Upcoming changes to contributions and leasing standards. Governance Directions, 68(2), p.99.

Dakis, G.S., 2016. Upcoming changes to contributions and leasing standards. Governance Directions, 68(2), p.99.

Eisenschmidt, K. and Schmidt, M., 2014. Integrating Prediction Markets into the Due Process of International Accounting Standard Setting-A Possible Path to Achieving Legitimate Accounting Standards. Available at SSRN 2408517.

Gaap.com.au. (2016). [online] Available at: https://gaap.com.au/wp-content/uploads/2016/03/GAAP-Consulting-Special-GAAP-Report-AASB-16-Leases.pdf [Accessed 3 Oct. 2016].

Moorestephens.com.au. (2016). IFRS 16 Leases – What does it mean for you? — Moore Stephens . [online] Available at: https://www.moorestephens.com.au/news-and-views/january-2016/ifrs-16-leases-what-does-it-mean-for-you [Accessed 3 Oct. 2016].

Wong, J., Wong, N. and Jeter, D.C., 2016. The Economics of Accounting for Property Leases. Accounting Horizons, 30(2), pp.239-254.

Woolworthslimited.com.au. (2016). [online] Available at: https://www.woolworthslimited.com.au/icms_docs/185841_Annual_Report_2016.pdf [Accessed 3 Oct. 2016].

Wynder, M., Baxter, P. and Laing, G., 2012. Accountability and accounting standards: the effect of providing indicative but incomplete guidance rules. e-Journal of Social & Behavioural Research in Business, 3(1), p.1.