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Podcast host Myles Corson welcomes Michael Keeler, Chief Executive Officer of LeaseAccelerator, to discuss how technology and managed services are transforming lease accounting. Together, they take a closer look at the challenges, administrative burdens and missed cost saving opportunities of large lease portfolios. The conversation continues with managed services and how technology is helping to automate, harmonize and simplify the leasing process and lease accounting compliance.
As organizations move past the initial adoption of new lease accounting standards for International Financial Reporting Standards (IFRS 16) or Financial Accounting Standards Board’s (FASB) Accounting Standards Update (ASC 842), there is a growing demand for experienced and dedicated lease accounting and contract management services that simplify the management of lease portfolios, and provide deep leasing experience in a cost-effective manner.
In this episode, host Myles Corson and Michael Keeler discuss:
The complexities of accounting and contract management across an organization’s lease portfolio and the leasing life cycle.
The benefits of using automated and centralized processes to provide lease portfolio control and flexibility.
The role of finance to provide better data and better decisions on behalf of the business.
Ernst & Young LLP has a strategic alliance with LeaseAccelerator to provide a transformational lease accounting and contract management service offering for organizations of all sizes. Visit ey.com/alliances for more information.
Key takeaways:
Organizations should evaluate moving their lease portfolio away from decentralized, cross-functional, and manual processes that constrain accountability and control.
Lease portfolio control and flexibility have never been more important as businesses respond to economic instability due to COVID-19 and its aftermath.
The use of managed services can help an organization free constrained resources to focus on higher value tasks and provide access to technology and automation.
Transparency is key to unlocking the hidden potential in organizations' leased assets from reducing costs, preserving cash, generating new free cash flow and increasing the flexibility of contractual obligations.
For your convenience, full text transcript of this podcast is also available.
Myles Corson
Hello, and welcome to the Better Finance Podcast, a series that explores the changing dynamics of the business world and what it means to finance leaders of today and tomorrow. I’m Myles Corson from EY, and I’m your host. Today, I’m delighted to be joined by Michael Keeler. Michael is the chief executive officer of LeaseAccelerator. With over 20 years of experience building software businesses, he has been the primary force behind the growth and vision for new software category of enterprise lease accounting. Michael, welcome.
Michael Keeler
Thanks, Myles. It’s great to be here.
Corson
Before we get started Michael, perhaps you can share a little bit about your background and your journey so far.
Keeler
Well, this is my third company. I’m a software entrepreneur. I started LeaseAccelerator in 2003. The U.S. Congress asked the SEC to close off balance sheet loopholes — one was special purpose entities and the other one was leasing. And the SEC kicked it over to the FASB and FASB ended up doing a joint program with the International Accounting Standards Board and formalized that in 2005/2006, with an anticipated new standard in 2010. We launched the company focused on helping companies manage their lease life cycle, where we knew leases were going to be capitalized.
Corson
You touched on an important topic, which is the accounting standard change that many of our listeners will have experienced. We came off the back of that transition and found ourselves in this pandemic world, which has also created a lot of other changes to what finance leaders have had to deal with. Maybe share some perspective about how those two events have shaped how companies have thought about leasing and lease accounting.
Keeler
Pre-pandemic, large companies really managed leases on spreadsheets, especially equipment leases; even with some guidance, nobody really paid that much attention to embedded leases. On the real estate side, you had real estate lease administration inside companies especially depending upon industry — certainly retail — was strategic to their business. So, you had kind of strategic leadership there.
But by and large, it was very disjointed and decentralized. And that was the reality when the new standard appeared in 2016.
It arrived with a 2019 deadline, and most people were coming off the back of implementing 606, a rev. rec. globally. They had experience in the project management side of it, but not necessarily in the operational side of it. In many cases, that same team led by technical accountants, to first understand the mechanics of the new standards and then collect their data in documents and centralize them in a system with a critical path objective of coming up with their initial balances, and then being able to close the books every month and track all the events within the business, that’s when companies really started to face the reality of the operational intensity of this challenge.
Initially, it was about how do I get to compliance, and then it became much more about: how do I sustain compliance, recognizing that the leases themselves and the assets connected to those leases are widely distributed around the world, and the stakeholders who originally put the leases in place, and understand those leases in context need to be consulted in every period in order to close the books?
That core operational challenge was very difficult for controllers, especially because they were just not used to having those cross-functional, interdepartmental, global processes. There were originally questions about, why are we leasing, who owns it, and who’s accountable for the economics and compliance? Companies are still sorting that out as they go back and rethink digital finance transformation and streamlining this operationally.
The pandemic hit and that was in the middle of the first audits for public companies who had a 1/1/19 deadline. They were transitioning from compliance, and how do I defend my balances, how do I take cost, risk and time out of the close to what are my auditors going to need, and how do I make that push button?
The pandemic made people really think about their real estate footprint, because everybody is working from home. There was a lot of interaction with landlords to try to get some kind of break in their obligations, so that they could preserve and conserve cash, recognizing that they weren’t going to be able to take full value for the use of these assets. You saw accounting impacts related to rent holidays and restructuring of rent transactions and then, in some cases, impairments. And that kicked off its own dialogue about simplification within the technical accounting compliance standard-making community.
I also think that people are looking strategically at leasing and saying, do I use this to generate more free cash flow and protect my cash? So, that’s the arc that we’ve all been on, at least for public companies, for the last several years.
Corson
That’s helpful context. Michael, you mentioned some of the challenges of balancing the operational side of lease management and the finance reporting control side. And clearly, leases do have a lot of complexity. How are you seeing organizations balance what gets done where, between what resides in controllership, what stays in the functions?
Keeler
I think many companies are still trying to optimize that. They’re still trying to figure it out. Step one was get compliant. Step two is, how do we do this sustainably? And there’s no silver bullet here for companies, because there’s so much heterogeneity inside companies in terms of how they work.
But we saw companies implement with their top talent, the technical policy people. Once they understood it, and their portfolio and they had a degree of automation around debits and credits and the basic compliance reporting, they then wanted to figure out, how do we really optimize this around the world? They started thinking about, how do we create a global process like procure to pay? And where do we put this global process?
You saw people moving it to shared service centers, and wanting to streamline and automate it before they did that. Or it’s in a shared service center, and they want to take costs out and make it more transparent and effective. So, they want to automate there too. They’re in this constant process of working from the substantive audit requirements back to the front of the process and extending control and visibility as far forward as they possibly can in that process.
We also see companies now turning to managed service providers who have that fractional expertise and know how to help both structure and run cross-functional processes. There’s different offerings within those managed service providers. Some companies outsource the whole process from companies where you give your contracts and your events and I’m going to give you your disclosures and audit reporting while others have a shared work approach.
Corson
One of the drivers of that managed-service-type activity we observed is people who have seen the transition to the new financial standard as a project. And now faced with what does the talent model look like to do this as a sustained business process, that’s probably a slightly different skill set. But I don’t know if you have any views on what sort of skill sets and experience people should be looking for to manage that process as an ongoing one.
Keeler
Well, if you’re just looking narrowly around the lease accounting, then you’re going to want talent to execute on that objective. You’re going to have people who get it done from a data and document standpoint, tactical inputting of the data and the reconciliations related to that. You’re also going to have to define the segregation of duties so that you have separation between reviewers and approvals.
But there’s going to be judgments in the front end of the process when you’re structuring and judgments involved when you have transactions and you need to figure out how to book them, or you have an event that might cause a modification or a reassessment. You have multiple skill sets in there. And that’s again, if you’re focused in that narrow way of looking at it.
Strategically, controllerships are thinking more broadly, and they are looking at the process as well. So, whether it be the real estate or equipment thinking about lease vs. buy, and then thinking about that whole procurement piece. It’s optimizing from a real estate perspective and portfolio management strategy and the transacting that goes behind that, and restructuring the buildout.
On the equipment side, it’s actually procuring that lease capital. How do I do that and bring value to the business and controllership? There are savings and free cash flow opportunities in both of those environments. They all need to be tracked and embedded in the audit trail. So, you want to automate it from the very front of that process, all the way through the day-to-day management in the events that flow through to the monthly close.
And that takes, more broadly, procurement expertise. It involves treasury and thinking about cost of capital, and why do we lease from a balance sheet optimization standpoint? Then you have real estate expertise, which can be either a strategic role or an administrative role — its own independent work stream, which the controllership is downstream of, that also needs coordination. If you think of it narrowly, it’s the lease accounting and the contract management piece. If you think of it broadly, it gets into much more of the strategy and procurement and involves the upstream stakeholders as well.
Corson
Taking the point around cost savings a little bit further, particularly for the finance organization and clearly the space you’re in with lease automation, presents opportunities. What do you think the key opportunities are then? Because in this current environment, cost is a key consideration. Where else do you see opportunities to take cost out of this process?
Keeler
If you talk to corporate controllers, CFOs and treasurers, they’re very good at explaining how they’ve gotten burned in the past by leasing and lease management. They’ve overpaid landlords or equipment lessors for a variety of reasons.
On the real estate side, they don’t manage the contracts effectively or the assets themselves effectively. They miss key dates. Sometimes, they get locked into a renewal period, sometimes there are excessive charges that slipped through, and they don’t have the audit controls or the reconciliations. That is something that’s ripe for automation.
On the equipment side, they don’t compete the transactions up front. They don’t bid them out robustly. They’ll just roll with the vendor captive’s offer. On the procurement side, they might compete the cash transaction, but they don’t compete the financing transaction. As a result, they overpay structurally in the beginning.
On the back end, they don’t return stuff on time, and they end up overpaying. What we like to do is think of things in terms of the total PV of payments, or the common discounting approach, and try to optimize. The opportunity is really about free cash flow. You want to drive down costs in the front end through competition, and then you want to have the end of term well controlled, so you don’t overpay.
People are comfortable working with real estate brokers who know their local markets to create optionality and competitive value in that local market. And you can scale that out and look more broadly as your overall, longer-term strategy — moving from expensive markets to lower-cost markets, if that is part of your business strategy.
On the equipment side, they might compete stuff for some of their larger deals, they might show it to people in their banking syndicate. But they don’t really have it figured out from a competitive standpoint, like they do in bidding out the cash side. Really looking at leasing as a life cycle, and how do I manage costs and risks across that life cycle and minimize them, is the way that people are now looking at it — now that they’ve got their head up from the accounting compliance part — they’re looking at it post-pandemic as, how do I do more with less, how do I create more free cash flow by fixing this?
So, those are the opportunities in general when you have highly complex, decentralized corporate processes. You do want to create ownership; you do want to minimize the number of touches in the business. You do that through automation, integration and just-in-time expertise across that life cycle. That’s another reason why that managed services piece is compelling.
Corson
You make the point around decentralization, Michael, and historically perhaps because in effect leasing was a source of off-balance sheet financing, it didn’t have quite the same central control and process as some procurement and purchasing activity did. Are you seeing a trend towards increased centralization in leasing decisions, and if so, what are the questions that CFOs and other finance leaders are asking in making that decision?
Keeler
Yes, we’re seeing more centralization, around both the procurement side as well as the lease accounting side. If you think about the stakeholders within a company who do these transactions, you’ve got people who have real estate expertise, you have people who have equipment expertise. And embedded leases happen in these service agreements.
Controllers are trying to put controls in at the very beginning of this process, so we have visibility into what’s happening; educate stakeholder groups on what’s important. There’s training and checklists that then happen at that stage. Let’s figure out at each one of these front-end inflection points, how do we create that accountability and visibility early on and track and trap all the events of the stakeholders across that life cycle, so that we can think about completeness and demonstrate it?
As we go throughout that life cycle and get the data in a timely way, we control for cutoff, so that we have existence tests through automated attestations about the assets and their status. And that way, they have application controls wrapped around every stage, and the system is supporting and enabling the stakeholders to run this process. That’s really how people are trying to think about it.
You can’t take the leases or the assets out of the field; you can centralize around the expertise. There’s a front-end procurement structuring expertise — then on the back end, the lease accounting and lease management expertise. Those are the two areas where people are creating single global processes that are all in one organization. Typically, what you see is the finance organization pulling the financing and structuring piece into their global process, leaving the cash piece with procurement sourcing, as an example. And then, doing that within a shared services context, which may mean offshore/near-shore to get the labor arbitrage underneath that in the long-term business continuity.
Corson
You’ve made some great points as to the benefits of centralization and the use of managed service or shared services. For listeners that haven’t made that step yet, is there any practical advice you’d give as companies think about making that shift to automate their lease management life cycle?
Keeler
Well, I think people are in an in between stage right now. They’ve done 606, they’ve done lease accounting compliance, but there’s quite often too many steps in lease accounting compliance. What we like to say is, focus on what’s the core unit of measure of work. Reducing the number of adjusting entries in your monthly close process is a good way for the corporate controller to think about, how do I change that upstream frontend of the process?
Where do adjusting entries come from? Well, first of all, you have to have the ability to close the books, and with locked ledgers, so when there’s events that require adjustments to prior periods, you understand it, that’s a feature functionality step. If you do have that, then it’s about how do I streamline it in the front of the process.
I’ll just give you some quick examples. If you’re a manufacturer, and you have 10 plants and each 1 of those plants is leasing 10 forklifts, then inside each one of those plants, you have 1 person — maybe it’s the plant manager, it’s a finance person, it’s a procurement person — every year, they’re getting 10 more forklifts and 10 more forklifts are leaving the portfolio. They have reached their end of life and end of lease.
If you think about the duplication of work, there’s 10 people doing 10 leases for 10 forklifts. Let’s say it’s $1 million dollars each. And we would say, let’s look at your lease portfolio, a very classic procurement strategy. Let’s see what consolidation opportunities there are. We see 100 forklifts in 10 locations, these 10 leases. And we say, why don’t we do an annual lease line and end up having four leases that are all the same terms and conditions (Ts & Cs)?
In procurement sourcing, they say you aggregate the buy to drive down the spend. By doing a $10 million bid to a marketplace of competing leasing companies, you can drive down the cost of the leasing. Everybody used to structure for the 90% test. So, let’s say it’s an 89% PV of payments, you can drive that down to 80% or lower, depending upon how competitive the bid is and the expertise of the leasing companies in managing the monetization of the residual value at the end of term and their access to capital markets as well as their cost of cap.
All those pieces come into play, and you can greatly simplify the back end of the process. How? Because you put everybody in the same contract, and with our RFP, we’re going to put out our Ts and Cs, which are our standard Ts and Cs for all of our equipment leases. Then the vendors, the leasing companies, bid on that lease. And so, you now have one set of Ts and Cs that’s going to flow through your portfolio over time. And you have fewer leases, fewer adjusting entries. It’s one unit of measure that people can think about: how do I streamline, how do I reduce the number of touches, and how do I reduce the work that my accountants have to do?
Corson
Yes, that makes a better process, providing better data and ultimately better decisions on behalf of the business. I think it’s aligned with conversations happening around the role of finance right now and the balance between investing in people and skills with the technology and automation. You clearly have a lot of conversations with controllers and other finance leaders. Are there any things that you are particularly excited about in terms of the transformation that finance organizations is going through?
Keeler
I see is a couple of things happening at the same time. You have companies $750 million and higher in revenue; you see them aggressively, especially with the pandemic, moving from on-premise systems to the cloud. And with the cloud, as a business user, you get a lot more specialization responsiveness and control. If the provider has an advanced cloud strategy, it makes it very easy to integrate and share data across systems. And that’s where SOC 1, SOC 2 wrappers and with the details that are in those, that where those really matter.
The ease of integration is important because you want to have straight-through processing. So, in the leasing space, you may have a real estate system upstream, a fleet management system upstream, an IT asset management upstream, and a procurement and contract management system upstream. And if those are in the cloud and they have robust strategies and with the standards behind them, then you can very reliability work with your IT organization and integrate with these.
So, you have clarity about your systems of record and about your custody of data. You have application controls and audit reporting around each of these applications, and you’re taking costs out of the actual work in doing the process, but you’re also taking the cost out of the auditing of the process. This general transition from on-prem to cloud, and along the way a lot of hybrid on-prem cloud solutions, emerging.
It’s very difficult for people to move their ERPs that quickly. But everybody, 5 years, 10 years from now, everybody is going to be cloud-based. That also facilitates shifting work much more easily. You can shift work to a shared service center and really create that COE in the best place in the world for you to do it within your business.
We have customers that have moved it from the coast to the middle of the country. We’ve had customers move it from US headquarters to Mexico. We’ve had people move it to Eastern Europe to the UK. It’s really however your business is organized, designed; that flexibility really helps. It also makes it easier to move it to a managed service provider.
A managed service provider has expertise in standardization on your platform. They can bring a level of predictability and sustainability and confidence that sometimes is hard to replicate within your own business. And quite often, the bigger the business, the more complexity, the more heterogeneity, the more leasing judgments, decision-making expertise is involved, right, the greater the risk. Working with someone on outcomes is a great way to hedge those risks and still take advantage of all of the automation cost takeout benefits. It’s very compelling.
Corson
Clearly thinking about the full costs associated with this process is — and to your point, thinking medium- to long-term about what the end game looks like — will help make better decisions. As we wrap up, any final thoughts or practical recommendations or suggestions you’d like to share with our listeners?
Keeler
Well, I would just say to the controllers and the CFOs, you’ve had to respond to this very complex set of standards, and those standards overlap with each other, and so it can get very complicated. Think of yourselves as business leaders, business drivers. There’s a business case that’s really about payback period, ROI, savings and free cash flow that should be quantitative around how you take lease accounting, lease life cycle automation, lease cycle management forward.
And the reason that’s really important is because when people look at these externally required compliance scenarios, whether it’s rev. rec. or lease accounting, or financial instruments, it’s something people say well, how do we do it, what’s the minimum thing that we can do here? We’ve already done the minimum. We’re in a post compliance reality.
Now it’s about how do we use this as a strategic tool in our business. And it shouldn’t just be this cost center. It should be about helping the company function better and make money. That’s the ultimate yardstick that people should have when they look at, do I do a shared services model inside my company? Do I work with a managed service provider? Think about your outcomes get both your internal people or your partner or partners, whoever you want to look to, to make the business case and really think about it in that traditional way. More and more we see free cash flow as the primary driver overtaking kind of other metrics. There’s a lot of opportunity as you reconsider lease life cycle automation and managed services.
Corson
Michael, again, I appreciate you taking the time to join us today and sharing those insights.
Keeler
Thanks, Myles, great to be with you.
Corson
And for our listeners, we’ll post links to related content to ey.com/betterfinance. If you did enjoy this episode, please subscribe or leave a rating or review wherever you listen to your podcasts, and we look forward to welcoming you on the next episode of the Better Finance podcast, a series that explores the changing dynamics of the business world and what it means to finance leaders of today and tomorrow.
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