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Well, OK, so this is one of those things that confuses me as a non-accountant. The problem is that you're conflating two things: Debt (as in the amount of money

Well, OK, so this is one of those things that confuses me as a non-accountant. The problem is that you're conflating two things: Debt (as in the amount of money you have to repay) vs something like "value". Why call them the same thing? > If we only account for the debt only, we are at some level asserting that opening the sauna in the desert was a better bet because the rent is lower No no no. This is when you misread "debt" as "value". We're just saying that the desert situation is less debt. The ski resort situation is more debt. You can be in more debt but overall have a more profitable enterprise, right? > If the business owner puts the upcoming lease payments on their books as a liability, then to keep the picture clear they should also be adding a productive asset to the books that represents their valuable location. This again confuses me - the debt is a sure thing. You signed a contract, meaning you have to pay up no matter what. The productive asset is not a sure thing - there's a million ways you could mess up and make less money than you intended. So it is absolutely fair to say that the desert business is low-risk (you're going to lose $0 in the worst case), and the ski resort business is high-risk (you're going to lose a lot more in the worst case). If guessing the future value of productive assets was simple, then investors of all kinds would have a super easy job. So how could we possibly put the productive asset in the books with a straight face? Isn't that borderline fraud? I can make my projections as optimistic or pessimistic as is advantageous to me. Who's to say?

rtpg 9y ago
replace the ski resort with a money printer. That money printer has value, given it can print money. You can also assign a dollar amount to how valuable that money printer is. So you can justifiably stick it on your balance sheet since this is a way you're making money. There's a whole thing in accounting about assigning dollar values to things you own, here it's no different. I would argue that you shouldn't really assign potential revenue from the ski resort, but depending on your circumstances it _could_ make sense. Accounting is a bit arbitrary in the end, since there are multiple logical ways of representing things. In most cases it's impossible to claim that one way of thinking is wrong... at worst you can claim that it doesn't match accepted practice.
roenxi 9y ago
This isn't mixing debt and value. The core point is that if the business is taking on a debt we should have regard for what the debt is being spent on, and the principle is that taking on a debt shouldn't immediately reduce equity in a business because it should be balanced by an asset. > You can be in more debt but overall have a more profitable enterprise, right? Yes. But if the businesses are identical in every way (management, worker skill, etc, etc) then they should have identical earning potential. If they are different in a way that is profitable, that difference is an accounting asset. It doesn't matter how similar the hypothetical sauna in the desert is to the profitable sauna, the better location will result in better profits. > This again confuses me - the debt is a sure thing. You signed a contract, meaning you have to pay up no matter what. No. Nothing about the future is certain. I don't even mean that in the pedantic philosophical way, it is a very practical concern. If, eg, my fictional ski resort was buried in an avalanche that the rent would be extinguished (in sane jurisdictions, anyhow). The business might also be limited liability and go bankrupt - same $0 loss worst case as the desert. > there's a million ways you could mess up and make less money than you intended. That is true of any asset. Risk is an accepted concept. Even 'risk free' assets are only risk free assuming the law doesn't change. > If guessing the future value of productive assets was simple, then investors of all kinds would have a super easy job. So how could we possibly put the productive asset in the books with a straight face? Because 'we' think it has value. It passes the 'someone with money is paying for it' test. Guessing values isn't easy, but at some point we do have to do it to compare options. > Isn't that borderline fraud? I'm not going to try and lawyer and account at the same time, but accounts books aren't some magical tome that is always right. Sometimes erroneous valuations make it into them. The accountants do the best they can. There are no set of accounts so correct they can make things true. There are reasonable and unreasonable assumptions. "I think this lease is net-positive for equity" can be a reasonable assumption. In fact, it usually will be.
TimPC 9y ago
If I buy a computer for $2000 it goes on my asset sheet at $2000 and depreciates over time according to GAAP rules. Shouldn't my lease contract on a $1000/month 5 year contract be a $60,000 asset and a $60,000 liability with the asset depreciating at $1,000/month? In most of accounting we get double entry bookkeeping to work by assuming the cost paid for an asset is the value of the asset. I think in many cases reporting it this way would be more accurate (Although depreciation expenses would be a giant loophole that needs fixing).
epa 9y ago
Hi there i just want to add that it is the present value of future payments that are put on the books as 'debt' (i.e. liability). Also, In situations where you truly do have a 'cheap' asset relative to the market, you are able to value that separately and many companies do. Search "below market leases 10K" for further information. Lease accounting guidance is very complex and there are many nuances that cover concerns in this thread. The point of the guidance is to determine the fair value.

rtpg 9y ago

replace the ski resort with a money printer. That money printer has value, given it can print money. You can also assign a dollar amount to how valuable that money printer is. So you can justifiably stick it on your balance sheet since this is a way you're making money. There's a whole thing in accounting about assigning dollar values to things you own, here it's no different. I would argue that you shouldn't really assign potential revenue from the ski resort, but depending on your circumstances it _could_ make sense. Accounting is a bit arbitrary in the end, since there are multiple logical ways of representing things. In most cases it's impossible to claim that one way of thinking is wrong... at worst you can claim that it doesn't match accepted practice.

roenxi 9y ago

This isn't mixing debt and value. The core point is that if the business is taking on a debt we should have regard for what the debt is being spent on, and the principle is that taking on a debt shouldn't immediately reduce equity in a business because it should be balanced by an asset. > You can be in more debt but overall have a more profitable enterprise, right? Yes. But if the businesses are identical in every way (management, worker skill, etc, etc) then they should have identical earning potential. If they are different in a way that is profitable, that difference is an accounting asset. It doesn't matter how similar the hypothetical sauna in the desert is to the profitable sauna, the better location will result in better profits. > This again confuses me - the debt is a sure thing. You signed a contract, meaning you have to pay up no matter what. No. Nothing about the future is certain. I don't even mean that in the pedantic philosophical way, it is a very practical concern. If, eg, my fictional ski resort was buried in an avalanche that the rent would be extinguished (in sane jurisdictions, anyhow). The business might also be limited liability and go bankrupt - same $0 loss worst case as the desert. > there's a million ways you could mess up and make less money than you intended. That is true of any asset. Risk is an accepted concept. Even 'risk free' assets are only risk free assuming the law doesn't change. > If guessing the future value of productive assets was simple, then investors of all kinds would have a super easy job. So how could we possibly put the productive asset in the books with a straight face? Because 'we' think it has value. It passes the 'someone with money is paying for it' test. Guessing values isn't easy, but at some point we do have to do it to compare options. > Isn't that borderline fraud? I'm not going to try and lawyer and account at the same time, but accounts books aren't some magical tome that is always right. Sometimes erroneous valuations make it into them. The accountants do the best they can. There are no set of accounts so correct they can make things true. There are reasonable and unreasonable assumptions. "I think this lease is net-positive for equity" can be a reasonable assumption. In fact, it usually will be.

TimPC 9y ago

If I buy a computer for $2000 it goes on my asset sheet at $2000 and depreciates over time according to GAAP rules. Shouldn't my lease contract on a $1000/month 5 year contract be a $60,000 asset and a $60,000 liability with the asset depreciating at $1,000/month? In most of accounting we get double entry bookkeeping to work by assuming the cost paid for an asset is the value of the asset. I think in many cases reporting it this way would be more accurate (Although depreciation expenses would be a giant loophole that needs fixing).

epa 9y ago

Hi there i just want to add that it is the present value of future payments that are put on the books as 'debt' (i.e. liability). Also, In situations where you truly do have a 'cheap' asset relative to the market, you are able to value that separately and many companies do. Search "below market leases 10K" for further information. Lease accounting guidance is very complex and there are many nuances that cover concerns in this thread. The point of the guidance is to determine the fair value.