Economic impacts of capitalization of operating leases: Evidence from Japan

Abstract

The purpose of this study is to investigate the economic impacts of capitalization of operating leases in Japan. Specifically, this study estimates the ex-ante impacts of capitalization of operating leases by comparing pro-forma accounting numbers based on a proposed rule change with reported accounting numbers under an extant rule. Our findings are twofold. First, capitalization of operating leases has significant impacts on financial ratios, including the debt to equity ratio (DER) and the interest coverage ratio (ICR). Second, the impacts of capitalization of operating leases on these financial ratios are more likely to be large after the adoption of Statement No. 13, Accounting Standard for Lease Transactions. This study contributes to the literature on economic consequences of capitalizing leases and discussions of global convergence of accounting standards.

Effect of capitalizing operating leases on credit ratings: Evidence from Japan

“…Before the adoption of Statement No. 13, Japanese firms were more likely to use finance leases than operating leases (Kusano et al, 2015). One of the reasons is that they were allowed not to recognize finance leases on their balance sheet.…”

“…Moreover, Japanese firms are more likely to use operating leases than finance leases (Kusano et al, 2015), resulting in a lengthening of the lease contract lifetime of operating leases. It is predicted that the reliability of accounting information is more likely to affect the risk relevance of operating leases after the adoption of Statement No.…”

“…However, estimating Japanese firms' operating lease obligations using the present value method is difficult because operating lease disclosures under Japanese GAAP are insufficient compared with those under IFRS and U.S. GAAP. Kusano et al (2015) amend the present value method developed by Imhoff et al (1991) and estimate operating lease obligations using operating lease disclosures under Japanese GAAP. Accordingly, following Kusano et al (2015), I constructively capitalize operating leases as follows.…”

“…In response to the adoption of Statement No. 13, Japanese firms are more likely to use operating leases (Kusano, Sakuma, & Tsunogaya, 2015), resulting in a lengthening of operating leases' contract lifetimes. Because this study estimates operating lease obligations using footnote information, longer lease contract lifetimes induce measurement errors with respect to operating leases, thereby decreasing the reliability of accounting information.…”

Recognition versus disclosure of finance leases: Evidence from Japan

“…Unlike US firms, Japanese firms are more likely to use finance leases than operating leases, especially prior to the adoption of Statement No. 13 (Kusano, Sakuma, & Tsunogaya, ). However, Statement No.…”