For 31 years, public companies have used a rule known as FAS 13 to classify most real estate lease transactions (virtually all leases 15 years or less) as Operating Leases.  Unlike a Capital Lease, the Operating Lease does not appear on the company's balance sheet.

The governing Federal Accounting Standards Board, affectionately known as FASB (pronounced Faz-bee), is currently in the process of scuttling this provision in favor of a new Sarbox-friendly full disclosure plan that will eliminate or greatly reduce the qualifications for Operating Lease classification.

I can see many of the non-accountants out there falling asleep.  So what, right?  WAKE UP!  This is a big deal.

This means absolutely HUGE impacts to real estate markets, financial securities markets, and corporate real estate strategy.  While the specific details aren't known, the change is absolutely positively headed toward us.  According to CPA Daily, the SEC estimates that U.S. corporations have kept a total value of $1.25 trillion in obligations off the balance sheet.  It wants to recognize those obligations.

For a company that currently leases business real estate, this means that they'll now have a debt obligation equal to the present value of those payments.  This will be balanced by a fair market value of the use of the property.  In most cases, that should be a near equal balance.  Equal?  So no big deal, right?  Wrong.

A company with formerly no debt would now have significant debt, playing havoc with traditional financial ratios.  Debt to Equity ratios will move in an unfavorable direction and Return on Assets could fall dramatically.  If this were equal across the paying field, the financial sector would adjust easily.  Unfortunately, some companies will suffer more than others.  According to an article titled, "This Land is your Land" in the July issue of CFO Magazine, Walgreens may overnight add $26 billion in obligations.  Home Depot would add over $9 billion.  Ouch!

So what is a pro-active corporate real estate strategist to do?  First, take some of your finance guys to lunch and hypothesize about the effects on your firm, and look at your top three competitors.  By pulling the lease obligations from the footnotes of their 10K statements, you'll have a good idea of how your firm will compare.

For years many corporations avoided ownership of real estate because, although the returns could be substantial, adding debt and fixed assets didn't make for the best quarterly reports.  Now, a company will be nearly indifferent as to lease versus own from a balance sheet perspective, and leasing doesn't offer the appreciation potential.  There are many REITS that made an industry of providing space to these corporate users.  Now perhaps, those corporate users will want to own it themselves.

If your company isn't public (yet) hang in here with me.  Besides your stock portfolio, this will impact your business as well.  Interested in buying a building?  Now you might be competing with the big boys.  For example, this could cause significant demand for single tenant buildings.

These changes won't likely take effect until 2009 or 2010, so you have time to consider trends and position yourself.    Certainly, it is worth it to take a closer look at purchase options now. 

Because when it comes to adding debt to your balance sheet, Less is More.