Accounting for Lease Renewal Options: The Informational Effects of Unit of Account Choices

51 Pages Posted: 29 Jul 2011

See all articles by Jeffrey Hales

Jeffrey Hales

University of Texas at Austin - Department of Accounting

Shankar Venkataraman

Bentley University - McCallum Graduate School of Business

T. Jeffrey Wilks

Brigham Young University

Date Written: July 27, 2011

Abstract

This study examines the informational effects of unit of account choices in the context of a proposed standard on lease accounting. Standard setters have tentatively decided that leases in excess of one year should be recognized on a lessee’s balance sheet, including optional lease periods, even though the lessee can choose not to renew the lease. We argue that this approach lacks representational faithfulness and creates an informational problem for users. Using an experiment, we show that the proposed treatment of renewal options has a negative effect on lenders’ willingness to lend to a firm with renewal options. However, we also show that disaggregating the capitalized optional renewal periods from the fixed-term lease obligation mitigates some of the negative effects of the proposed approach, particularly when disaggregation occurs on the face of the financial statements. These results should be of interest to standard setters as they deliberate changes to lease accounting and when considering the tradeoffs that can arise with expansive unit of account choices.

Keywords: functional fixation, leasing, lending, presentation effects, unit of account

JEL Classification: C91, M41

Suggested Citation

Hales, Jeffrey and Venkataraman, Shankar and Wilks, Thomas Jeffrey, Accounting for Lease Renewal Options: The Informational Effects of Unit of Account Choices (July 27, 2011). Accounting Review, Forthcoming. Available at SSRN: https://ssrn.com/abstract=1896591

Jeffrey Hales (Contact Author)

University of Texas at Austin - Department of Accounting ( email )

Austin, TX 78712
United States
512-471-2163 (Phone)
512-471-3907 (Fax)

Shankar Venkataraman

Bentley University - McCallum Graduate School of Business ( email )

Waltham, MA 02452-4705
United States

Thomas Jeffrey Wilks

Brigham Young University ( email )

School of Accountancy
526 Tanner Building
Provo, UT 84602 84602
United States
801-422-3930 (Phone)
801-422-0621 (Fax)

HOME PAGE: http://marriottschool.byu.edu/directory/details?id=5337

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