1. The FASB Lease Accounting Project Overview, Issues and Status May 30, 2013

2. Agenda Timing What is the Project? Issues and Impacts –Lessees –Lessors Summary impacts and action plans Q&A

3. Project Timeline ED Issued August 2010 Redeliberations Jan 2011 – September 2012 Comment Letters Dec 2011 Timeline is not fixed Dependent upon number of comment letters and extent of re- deliberations We expect a high volume of negative comment letters Effective date uncertain – likely to be 2017 Outreach Final Standard 2014 Comment Letters Due 9/13/13 New ED To Issued 5/16/2013 Draft New ED Now Re-deliberate 4 QTR 2013 & into 2014

4. Questions addressed by the Boards What is a lease? What is the lease term? What are the lease payments ? How to account for short term leases? How does a lessee allocate cost? How does a lessor recognize income? 4

5. Definition of a lease A contract in which the right to use a specified asset is conveyed, for a period of time, in exchange for consideration –Specified asset (PP&E plus certain types of inventory like spare parts) –Right to control the use of a specified asset (different from current GAAP) –No guidance on purchase vs. lease 5

6. Lease term Recognized lease term would include non-cancellable period, plus any optional periods where there is a significant economic incentive to extend (or not terminate) the lease (virtually same as current GAAP) Purchase options – include on a basis consistent with renewal options –Assume exercise if significant economic incentive to exercise exists Consider all factors (contract, asset, market and entity based) 6

7. Lease payments Lease payments include: –Fixed payments (bundled services must be bifurcated) –Variable payments based on index or rate (e.g., CPI or LIBOR) –Termination penalties (if term is assumed not to be renewed) –Residual value guarantees, at the amount expected to be paid, if any (lessee only); lessor does NOT include all types of them –Exercise price of purchase option included in lease term Contingent rents based on performance or usage would be excluded: –Recognized as incurred/accrued –Contingent rents must be truly variable to be excluded (aka not “disguised min lease pmts”) 7

8. Lease Models Lessor Models Lessee Models Short term leases - use op lease method Right of use model* “Right to use” leased property Lease payments Short term leases - use op lease method Recognize receivables and residuals Derecognize leased property Receivable & Residual approach Recognize “right of use” asset Recognize liability to make lease payments Operating Lease *2 lease types: SLE (Type B) vs. I&A (Type A) leases with different P&L cost patterns Most TRALA leases will be classified Type A for lessees & R&R for lessors

9. Lease Classification – ROU Model Lessees: 2 new lessee types and approaches (except for short term leases) Interest & Amortization (I&A) (Type A) –The lease is capitalized and the asset is amortized straight line and interest is imputed on the liability. –The result is a front ended expense pattern. Single Lease Expense (SLE) (Type B) –The lease asset and liability are capitalized, then adjusted each month With inoerest imputed on the liability and plugged amortization on the asset to create a single (straight line) lease expense Lessors: Receivable & Residual (R&R) (Type A) –Record a PV receivable & residual asset, recognize finance income Operating Lease (OL) (Type B) –Same as FAS 13 method

10. Lease Classification – ROU Model Lessees: Real estate and equipment leases are treated drastically differently. For equipment leases – including most vehicle leases –It is presumed that the lease is an I&A lease for lessees (bad news!) and an R&R lease for lessors (good news!) –Unless the lease term is an insignificant portion of the economic life of the underlying asset or the present value of the lease payments is insignificant relative to the fair value of the asset –These criteria are radically different for lessees than under existing FAS 13 GAAP so that most equipment leases will have front ended lease costs For real estate leases – It is presumed the lease is a SLE lease for lessees and operating leases for lessors –Unless the lease term is for the major part of the economic life of the underlying asset; or the present value of fixed lease payments accounts for substantially all of the fair value of the asset. –These criteria are virtually the same as the line under existing FAS 13 GAAP so that most real estate leases will have straight line rent expense Net result: balance sheet amounts for equipment capital & operating leases are jumbled & analysts won’t be able to adjust to get what they need!!!

11. Determining lease type Other Than Property Commercial real estate (10 yr/40 Yr) Commercial real estate (30 yr/40 Yr) SLE I&A SLE I&A So, the million $$$ question – What is insignificant??? FASB/IASB – no bright lines; joint webinar examples (lease term versus life) Car Fleet (3 Yr/6 Yr) Vessel (20 Yr/40 Yr) Airplane (8 Yr/25 Yr) Vessel (5 Yr/40 Yr) Truck (4 Yr/10 Yr) Property 1111 Re the PV test 10% has traditionally been the “insignificant” bright line

12. Lessee Project Summary Lessees: Capitalizes lease assets & liabilities via complex calculations & adjustments ignoring lease economics Short term leases can use existing operating lease accounting (off balance sheet) Estimate lease term & payments (include only bargain/compelling renewals, bargain POs, “rate & index based” contingent rents & value of residual guarantees) and capitalize at incremental borrowing rate with continual adjustments to estimates Unbundle full service lease payment or else capitalize the whole payment – lease portion should be capitalized, service portion should be expensed as paid New classification tests – different for real estate and equipment Real estate lease get straight line rent expense (SLE or single lease expense method) Equipment lease costs front ended – amortization & imputed interest (I&A or interest and amortization method) Deferred tax accounting needed for all equipment leases

13. Book Expense Lease Term Str Line Rent Exp Imputed Interest Expense + Depreciation Depreciation of ROU Asset Front Ending of Lessee Lease Cost Mid Point Expiry Imputed Int Exp

14. What is the Project?

15. What is SLE accounting? Example InitialYear 1Year 2Year 3 Income statement* : $12,000 Lease expense$12,000 Balance sheet Right-of-use asset$32,500$22,125$11,333$ – Liability to make lease payments$(32,500)$(24,125)$(13,333)$ – A company enters into a three-year lease for new office space and agrees to pay the following: $10,000 in year 1, $12,000 in year 2 and $14,000 in year 3. The present value of lease payments is $32,500 (using a discount rate of 5%). * Consists of InitialYear 1Year 2Year 3 Interest expense$ 1,625$ 1,208$ 667 Amortization expense$10,375$10,792$11,333 Total$12,000 15

16. What is I&A accounting? Example InitialYear 1Year 2Year 3Total Income statement : Interest expense$ 62$ 43$ 22 Amortization expense $297$296$ 297 Lease expense$359$339$319$1,017 Balance sheet Right-of-use asset$890$593$297$ 0 Liability to make lease pmts $(890)$(613)$(317)$ 0 Average rent paid$339 $1,017 % Lease exp B/(W) average rent (6%)06% A company enters into a three-year lease for new $1,000 (list price) PC and agrees to pay the following: $339 per year in arrears. The present value of lease payments is $890 (using a discount rate of 7%). 16

17. What is the Project? IssueImpact New ROU asset & lease liability capitalized – but not broken out Same as calculation S&P and Fitch, less than Moody’s capitalizes Lease costs front ended for equipment leases Up to 16% higher than today in year of transition, 3 to 8 years to turn around Cash rent paid still the IRS tax deductionNew deferred tax assets on B/S Bundled paymentMust break out service to avoid capitalization Lease cost more evidentCapitalize interim rents, CFO involved Lease treated as capital itemNo longer in operating budget, tougher internal approval process Simple short-term lease methodGood news for terms of 12 mos or less with no option to renew Compliance costsTransition, ongoing process, complex TRALA Lessee Issues & Impact

18. Lessee Analysis ProductImpact Short Term Rental (1 yr or less with no option to renew) Exempt from new rules – election to continue to use operating lease method (off balance sheet) Full Service Lease“Lease” portion of pmt capitalized - lessee must break out the “service” portion or else the whole payment amount is capitalized Operating (Tax) LeaseCapitalized, but PV lower than equipment cost Synthetic Lease/TRACCapitalize only contractual rents, compelling renewal rents & estimated residual guarantee payments – capitalizes far less than expected Capital leaseCapitalized as under current rules TRALA Product Offerings

19. Impact by Lessee Type Lessee typePotential impact Investment grade/large companies Some negative impact as leases often accounting focused, have more sources of capital, more analytical staff, loss of leveraged lease product increases lease costs Non-investment grade/small & medium sized Less impact as source of capital is prime reason for leasing, fewer sources of capital, level payments & 100% financing conserves cash, less concerned about balance sheet optics, less staff to analyze lease and less analytical Municipal/tax exemptNo change in municipal market as GASB, not FASB, issues rules and operating leasing appears to be retained by GASB, tax exempt leasing offers lowest cost, leasing avoids issuing debt with all its constraints

20. Truck lease example: Vehicle cost $89,000.00 Lease term 84 months Basic rent payment $1,101.51 Lessee incremental borrowing rate 7.00% PV of basic rent $72,983 Percent capitalized vs. truck cost82% What might the numbers look like ? Capitalization Journal Entry: Right to Use Leased Asset$72,983 Capitalized Lease Obligation$72,983 To record lease at inception (PV of lease rents) Issues with bundled billed full service leases: -Lessee must bifurcate service portion or capitalize whole payment (results in well over 100% of vehicle cost capitalized!) -Lessee will ask for break out of lease and service portions of payment

21. Implications for Lessees The PV of the lease rents will be recorded by the lessee as an asset and liability. As an example, assume a 5 year $100,000 truck, where the PV rents are capitalized at $89,517 or 89% of cost assuming a 8% discount rate (incremental borrowing rate). The P&L pattern will not represent the economic nature of a rental agreement as it will be front-ended as level rent expense is replaced by imputed interest on the liability at 8% and straight line depreciation of the capitalized asset. For a 5 yr lease with monthly rents of $1,815 the increase in first year expense is $2,333 or 11% higher than straight line. P&L Pattern YR 1 YR 2 YR 3 YR 4 YR 5 TOTAL Current GAAP 21,781 21,781 21,781 21,781 21,781 108,905 Proposed GAAP 24,114 23,026 21,863 20,618 19,286 108.905 Difference (2,333) (1,245) (82) 1,163 2,495 0 Difference -11% -6% - 6% 11% 0.0% The lessee will have to include contractual rents, bargain POs, bargain/compelling renewals & estimated payments under residual guarantees. Non bargain renewals and POs ignored in TRACs. Estimates to be reviewed & adjusted at each reporting date with complex calculations & catch-up adjustments to be made. The P&L pattern will not match the IRS tax treatment triggering deferred tax accounting.

22. Lessee TRAC Lease Example

23. Customer Talking Points New rules will capitalize lease payments on balance sheet Amount capitalized will be less than if you borrow to buy P&L cost will be front loaded for most vehicle leases Not logical - rent should be the expense The leasing industry & lessees will fight through comment letters % of front loading may not be material The front ending “turns around” so the reported cost is the same as total rents Reasons for leasing remain Service/outsourcing/convenient Capitalized payments less than cost to buy Additional source of financing 100% financing/level payments Low financing costs/tax benefits/residual Right to return equipment/transfer residual risk

24. Business Reasons for Leasing Reason for LeasingDetailsStatus After Proposed New Rules Raise CapitalAdditional capital source, 100% financing, fixed rate, level payments, longer terms Still a major benefit versus a bank loan especially for SME & non-investment grade lessees with limited sources of capital Low cost capitalLow payments/rate due to tax benefits, residual & lessor low cost of funds Still a benefit versus a bank loan Tax benefitsLessee can’t use tax benefits & lease vs. buy shows lease option has lowest after tax PV cost Still a benefit Manage assets/residual risk transfer Lessee has flexibility to return asset Still a benefit ServiceOutsource servicing of the leased assets. Still a benefit ConvenienceQuick & easy financing process often available at point-of-sale Still a benefit RegulatoryCapital issuesPartial benefit if the PV < cost of the asset, S/B true for hi residual assets w tax benefits AccountingOff balance sheetPartial benefit if the PV < cost of the asset, S/B true for hi residual assets w tax benefits

25. Lessor classification same as for lessees There are 2 methods as proposed –The Receivable & Residual (R&R) method for most vehicle leases (Type A leases) –The Operating Lease method (for lease terms of one year or less – without renewal options & most RE leases(Type B leases)) Lessors rebook virtually all leases except short term leases on transition What is the Project? - Lessor Details

26. Lessor accounting - receivable and residual (most equipment leases) Record a lease receivable Allocate a portion of the carrying value of the underlying asset to the right-of-use asset “sold” Recognize “sales type” profit (or loss) for the difference between the PV of lease payments and the carrying value allocated to right-of-use asset “sold” Record a residual asset as an allocation of the carrying amount of the underlying asset “Sales type” profit associated with the residual asset would be deferred until the asset is subsequently sold or re-leased Underlying asset Residual asset Right-of- use “sold” 26

27. Illustrative example – Receivable & Residual Lessor Assumptions: A lessor manufactures a machine for $7,500 with a fair value of $10,000 = $2,500 gross profit Enters into a three-year lease with annual lease payments of $2,400 paid at end of each year Expected fair value of the residual asset at the end of the lease term is $4,770 Interest rate implicit in the lease is approximately 7.87% Lease receivable (PV of annual lease payments of $2,400 at 7.87%) = $6,200 (rounded) Carrying value of asset allocated to right-of-use asset “sold”: $7,500 x $6,200/$10,000 = $4,650 Profit recognized at lease commencement: $6,200 – $4,650 = $1,550 (or 62% of $2,500 gross profit) Gross residual (PV of the estimated FV of residual asset of $4,770 at 7.87%) = $3,800 (rounded) Carrying value of asset allocated to residual asset (net residual): $7,500 x $3,800/$10,000 = $2,850 Deferred profit: $3,800 – $2,850 = $950 Interest income on gross residual: $3,800 x 7.87% = $299 (rounded) Commencement Lease receivable $6,200 Gross residual$3,800* Cost of sales$4,650 Deferred profit$950* Asset$7,500 Revenue$6,200 *Presented as net residual: $2,850 Subsequent (year 1) Cash $2,400 Interest income – receivable$ 488 Lease receivable$1,912 Gross residual$ 299 Interest income – residual$ 299 27

28. Illustrative example – Receivable & Residual Proposed standard vs. current standard Proposed standardCurrent standard PeriodReceivable Gross residualDeferred profitNet residualProfit (sales-type lease) Initial$6,200$3,800$ (950)$2,850$1,550$2,500 Year 1$4,288$4,099$ (950)$3,149$ 787 Year 2$2,225$4,422$ (950)$3,472$ 660 Year 3 $  $4,770$ (950)$3,820$ 523 Total prior to sale of residual$3,520$4,470 28

29. Lessor presentation – Receivable & Residual Balance sheet Lease receivable and residual asset presented separately (summing to a total “lease assets”) or shown as one “lease assets” with two amounts disclosed in notes Present gross residual and deferred profit together as a net residual asset Income statement Lease income and expense (e.g., revenue and cost of sales) in separate line items or net in a single line item (lease income), depending upon lessor’s business model Income and expense from lease transactions presented separately in income statement or disclosed in the notes Accretion of residual asset in interest income Amortization of initial direct costs as an offset to interest income 29

30. Lessor Issues & Impact IssueImpact Short term leases exemptElect to keep using operating lease method New Receivable & Residual (R&R) method Almost identical to current direct finance method – earnings @ implicit rate Sales-type gross profitsRecognized on all R&R leases but residual portion deferred until residual resolved Residual value insuranceNeed for RVI?? No operating lease accounting, may change residual to a financial asset? FAS 166 receivable salesReceivables under former operating may be financed as asset sales – works best for synthetic leases (non-tax leases) TransitionVirtually all leases rebooked, huge project, revise systems

31. Possible Strategies/Tactics Monitor the project – TRALA website, Leasing-101 website, IASB/FASB/ELFA websites, articles Comment to the FASB Sales training Understand proposed rules Talking points Dealing with objections Review products –Accounting driven products will change – no longer 100% off balance sheet –Customer will know PV of rents –Focus on FMV tax leases, TRACs and synthetics with low PVs –Interim rents & certain contingent rents will be capitalized New products/offerings –Use more TRAC-type structures –Develop a “residual guarantee” product –Provide accounting info to customers as a service Lease Accounting Project

32. What is the Industry Doing? TRALA issued a comment letter to the FASB/IASB citing major issues re the first ED: –Estimating payments and adjusting continuously makes compliance costly and burdensome –Immaterial leases (cost =/< $250,000) and short term leases should be exempt from capitalization –Lease cost should be straight line –Different leases should be accounted for differently –Contingent rent and non-bargain renewals are not liabilities to be capitalized –Full service leases should not be unbundled – should be service contracts Results: They changed positions on renewals, mileage based contingent rents, short term leases & revised lessor methods

33. What is the Industry Doing? TRALA & the NPTC issued an unsolicited comment letter to the FASB/IASB citing major issues re their final decisions: –Classification tests S/B the same for equipment and real estate leases & S/B based on FAS 13 & same as tax & legal view –Lease cost for former operating leases S/B straight line to preserve capital –Capitalized op lease liability should not be called “debt” to avoid covenant breaches/preserve borrowing capacity –Rules are too complex – most lease customers are small companies

34. What is the Industry Doing? TRALA, ELFA & worldwide leasing trade organizations jointly interacting with the FASB & IASB providing industry input & expertise Influencing the process to: –Lessee accounting should reflect lease economics –SL recognition of lease expense –Operating lease liability not “debt” –Avoid burdensome compliance for our lessee customers –Save DFL, leveraged & sales-type lease accounting and get tax effected DFL-like income recognition for true leases PR campaign –Engage lessees & manufacturers/lessors encouraging comment letters –Meetings, articles & webcasts Results: –Got them to change position on renewals, mileage contingent rents and short term leases –Got them to reconsider lessor accounting model

35. WE NEED COMMENT LETTERS!!! Read the Exposure Draft dated May 16, 2013 Comment on the Exposure Draft Deadline for comments will be September 13, 2013 Get your customers and their parents to comment There is an unofficial hierarchy of comment letters: User/lender comment letters carry the most weight Preparers are next in importance Lessor trade associations letters are viewed as self serving – so trade associations alone cannot change their views

36. Remaining Advocacy Issues – Lessee IssueDesired outcomeBasis for request Lessee cost pattern for equipment leases Maintain current straight line average rent expense for all operating leases as they are executory contracts Reflects economics of an executory contract Asset = liability reflects value of the contract Matches revenue with costs in rent reimbursement scenarios Matches tax and legal view Lessee balance sheet presentation Lease liability re capitalized operating leases should be separately reported and not labeled as debt Legally not the same as debt in bankruptcy Intent of debt limits is to limit more debt having same legal claims on assets Avoids debt covenant limits Sale leasebacks with any PO not considered sales per Rev Rec A non bargain purchase option should not negate sale treatment All the risks and most of the rewards in the asset’s residual value have transferred to the buyer indicating that a sale has taken place Renewals that rise to a significant economic incentive are booked at inception & costs are front ended Renewals should be booked at commencement & the cost pattern should be straight line New leases are booked at commencement Front ending costs creates a saw toothed pattern Costs of the renewal are accelerated into the remaining term of the base lease Ease requirements for bundled lease payments Estimates s/b allowed if no rates available to lessee Elements of pricing proprietary Full capitalization onerous/incorrect

37. Remaining Lease Project Advocacy Issues - Lessor IssueDesired outcomeBasis for request Gross profits deferred in proportion to residual risk RVI & RVGs to be considered in the profit calculation A guarantee/insurance changes the residual’s nature to a financial asset Required symmetry in lease classification with the lessee tests Lessor business model should be the basis for lease classification Lessors in the “operating lease” business should get operating lease treatment as real estate lessors do For financial lessors, the R&R method best reflects the economics for their business For operating lessors, operating lease accounting best reflects the economics of their business Tax benefits should be factored into the revenue recognition of leases The after tax yield on the net cash invested should be the pattern of revenue recognized in R&R leases ITC should be a revenue item Tax benefits are as much a part of revenue as rents and residual sales Some transactions have significant tax benefits & ignoring them distorts revenue recognition Leveraged leasesGrandfather existing deals Retain some form of leveraged lease accounting Reflects economics of the transaction Avoids capital adequacy issues Reduces lease rates

38. Questions ?