IFRS 16 and IAS 17: Financial Statement Analysis for Airlines

This report provides a literature review examining the impact of IFRS 16 and IAS 17 on the financial statements and ratios of airline companies. It explores the industry effects of lease accounting changes, focusing on the capitalization of operating leases and their impact on financial positions, including assets, liabilities, and profit margins. The analysis delves into the effects on financial statements, such as balance sheets and income statements, highlighting the shift from operating to finance leases and the subsequent changes in expenses, profits, and financial ratios. The report discusses the implications for leverage ratios, profitability ratios, and tax considerations, emphasizing the increased transparency and potential impact on companies heavily reliant on commercial leases. It also considers the effects on tax projections, deferred tax, and the need for adjustments in accounting systems. The report draws on various studies and analyses to assess the implications of these accounting standards on the airline industry's financial reporting and decision-making processes.

IFRS 16 AND IAS 17 CHANGES
AND THE IMPACT ON
FINANCIAL STATEMENTS ON
AIRLINE COMPANIES

Contents
INTRODUCTION.......................................................................................................................................3
MAIN BODY..............................................................................................................................................3
1. Impact of accounting for leases with industry effects..........................................................................3
2. Impact of accounting for leases on financial positions........................................................................4
3. Impact of accounting for leases on Financial statement:......................................................................5
4. Impact of accounting for leases with financial ratios...........................................................................7
REFERENCES............................................................................................................................................9

INTRODUCTION
Recent focus of companies has been put on rising the credibility and disclosure of
Financial Statements. Although the IFRS render valuable contributions to the issue of business
efficiency, durability and equivalency, distances still need to be protected. The Financial
Statement Users opposed the IAS 17 Lease Contract, which takes place between the IFRS, since
the financial statements of the firms with large business leases are not entirely true. The project
report is based on literature review of impact of these standards on financial statements, ratios of
airline companies.
MAIN BODY
Literature review: A review of literature or narration is a form of review paper. A
literature analysis is a research article comprising the latest observations, as well as conceptual
and analytical approaches to a given subject. In the aspect of airline companies of UK, the
literature review has been done in order to find out impact of IAS 17 and IFRS 16 on their
financial statements and ratios.
1. Impact of accounting for leases with industry effects.
The literature review has been discussed on industry effect linked to leasing standards.
Herein, below it is mentioned in such manner:
According to Morales-Díaz and Zamora-Ramírez (2018) focused on airline industry of United
Kingdom and identified the operating lease capitalization on the financial statements and ratios.
The approaches used for effective lease capitalization have been developed by the organization
for the purpose of demonstrating the value of lease operational liabilities for the widely
employed risk / performance ratios in capitalizing unrecorded leases and their effect on British
airlines' assets and liabilities. It has been intended to show the effect both of gross profit and net
benefit on the operating lease capitalization, because the influence of operating leases on the
income statement may be important. The findings of the analysis show a significant impact on
the typical productivity rates of the unrecognized operating leases. The goal of the analyses was
to determine the effect on the financial results of the recapitalized operating leases of listed firms

traded through the UK stock exchange since 1994. As a result of the analysis, a sum of total
assets was not identified, and 39% of the average liabilities listed are non-recorded long-term
liabilities. Moreover, the gross margin rates, inventory depreciation, inventory making and debt /
equity levels will adjust dramatically and the services market in particular will be impacted
across the industries. This has studied, from a leasing standpoint and on liquidity, lease costs,
real asset turnover rates and real asset from a rental point of view, the detrimental impact of
recapitalized rent cycle in terms of liquidity, financial stability, competitiveness, net asset cost
and fixed asset. The findings derived from the averages have been found to be smaller or higher
than it would be and deceptive outcomes have been produced.
According to Capkun, Collins and Jeanjean, (2016) The effects of the operating leasing after
capitalisation after the amendments to IAS17 is based on the financial statement after
capitalization. As a consequence, he claimed that adjustments pertaining to the financial report
and financial ratios will have significant consequences. In compliance with the previous
accounting standard, the leases are listed and accepted as financial or organizational leases in
view of the classification of leases under IAS 17 which was criticized for not often consistently
reporting the leases in conjunction with the users 'financial statements. Perhaps notably, the
owners were not expected to pay for their losses and obligations arising from the renter's
operating agreements. In order to follow the requirement of fair representation within the context
of the liabilities resulting from renting practices, the International Accounting Standards Board
(IASB) and the Financial Accounting Standards Board (FASB) have sought to establish an
accountancy norm that incorporates all of the leasing processes on the balance sheet to indicate
the sum to be reported on the balance sheets.
2. Impact of accounting for leases on financial positions
This is also consider to be an crucial component of this LR which essentially define the
impact related to the facts that operating lease capitalisation can brought into the off balance
assets, liabilities, profit margin, debts and equity which are regarded as the most effective
financial indicators. The overall impact of financial position of Airline companies is primarily
depended upon two categories like financial ratios and annually prepared financial statement
such as profitability and liquidity ratio as well as balance sheet and income statement. As per the
opinion of Duke and Hsieh (2006) the new leasing was introduced in 2019, the revised

requirements would have a major impact on the companies 'financial reporting that are
financially based on operational leases. In 2014, the IASB-related "Impact Research Consultative
Committee" had prepared a report on the industries which would be impacted by the new
criteria. It noticed that perhaps the current requirements would adversely impact nearly half of
the country's companies. This also noticed that the aircraft industry will be among the sectors
most impacted as many airline companies rent certain planes dependent on operating leasing.
Accordingly, it pays for the lease debt under the successful interest process. Leasing costs are
divided, using the effective interest process, between rent expenses and a loss of the leasing
commitments. This is supposed to bring a profound shift to the financial statements framework,
and thus the main financial ratios, particularly for those companies that are heavily dependent on
commercial leases. This may have many consequences on the businesses, especially affecting
debt ability and funding costs. The annual statements and associated annual ratios would be
adversely affected by implementing the updated requirements.
3. Impact of accounting for leases on Financial statement:
In Goodacre's (2003) analysis to expose the value of the leasing in England's
Airline sector as well as to assess the possible effect on the financial statements if all the rentals
are included in the lessee's financial statements, it was reported that perhaps the uninvestigated
operational lease obligations was 3.3 times higher than that of the obligations presented in the
financial statements The operating rent reserves represent 28 per cent of the total income, the
cost to be allocated on the rented properties decreases the net profit by about 23 per cent in the
case of the net leases being capitalized and the benefit after the taxation is decreased by about 7
per cent. Within Income Statement the rental cost, which is also the capital expenditure, would
almost vanish and substitute the depreciation expenditure on the "right to possession" as well as
the accrued interest on the loan. Through new IAS 17, the maintenance cost for the same would
be smaller than the leasing value. This would result in a reduction in running costs and therefore
a rise in profits before debt and taxes. Similarly, the interest cost for the company would rise as a
result of the identification of interest expenditure on rental liabilities. The above impacts on the
annual statements and income statements will affect all asset returns and stock returns. The

above impact on financial reporting improve the clarity of financial reports, because all rentals
would be "in-balance" It may have an adverse effect on certain companies though.
In the analysis carried out by Bostwick et.al. (2013) in which it was planned to assess the
effect of capitalizing leasing relating to five chosen firms from five different industries, it
contrasted and attributed the elements of the financial statements (assets, liabilities, equity and
net profit) as well as the rates of quality (total liabilities / assets, gross liabilities / equity, long-
term liabilities / equity, return on assets). Throughout the report, it was found that the retail firms
are the companies which are impacted in the greatest / smallest way by capitalizing the leasing.
This is positive news from a financial perspective for successful companies with substantial
operational lease obligations because they can increase tax deductions relative to IAS17. Dealing
teams will ensure that the tax projections take into consideration the current IFRS 16 cost profile
while forecasting tax refunds and cash tax payments because that will dramatically decrease cash
tax outflows relative to the IAS17 cash tax role. Consideration will also be extended to the
updated quarterly compensation regulations that come into effect for reporting periods starting
on or after 1 April 2019 which allows major corporations to pay their expected corporate tax
liabilities absolutely immediately. In the year, instead of dividing tax revenues in the next year
by 50:50 and just four quarters of the close of the reporting year. In the UK, any incremental
changes underneath the reform of basic rules will not count for automatic tax breaks. However,
any temporary modifications resulting from the implementation of IFRS 16 will be distributed
over the cumulative total of the existing lease period. After transfer, this is expected to result in
an interest expense fund. Trade managers would need insights in with this expanding measure
because this will affect this interest expense asset. In addition, this will influence actual tax
projections and cash tax investment returns. With regard of companies using accounting systems
other than IFRS / FRS 101, restructuring changes in support of operational leases are likely to be
needed to arrive at the combined balance sheet and statements of profits. Such changes would
need to be closely checked regarding their deferred tax effect – if not adequately accounted
regarding, the actual tax expense (including the deferred tax fee / credit) could be
misrepresented. This in turn could lead to incorrect, effective tax rate estimates that are likely to
be applicable to the listed categories. Likewise, even the UK tax adjustments are listed in those
laws. On implementation of IFRS 16, attention should be extended to whether the overseas
branches would pay leases. It may have a single and integrated form of real and dividend income

influences. As leaseholders under IFRS or FRS 101 will have to independently designate their
leasing as either 'operating' or 'fund' leasing for CIR reasons, an increased regulatory requirement
will arise. In their estimation of interest for Tax purposes, the interest cost resulting from the
'servicing' leases will be omitted instead. The added enforcement workload may be important for
individuals joining the party ratio decision, as different reports for the worldwide community
would need to be kept. Accounting systems will need to be modified to mark these rentals such
that entities can carry out the tax assessments required for CIR applications.
IFRS 16's effect goes farther than accelerating tax deductions. It would also have an
effect on existing and deferred tax prognoses. Apart from accelerating tax reductions lowering
the existing tax payment in future years, there are other aspects in which revenue projections
may be impacted:
1. Assessing structural adjustments;
2. Affiliate entities use separate GAAPs
3. International businesses with specific tax laws.
Examination of the influence of implementing the new norm on net income has produced
contradictory results, for certain businesses, applying the new standard will increase net income,
and while for other businesses it will have a different impact. The Impact Analysis Results
Analysis Consultative Group (IASB, 2014) predicted such an outcome, arguing: "Companies
usually retain a lease inventory at any moment, and the extent of the impact of implementing
IFRS 16 on the financial statements would depends on the terms of the contract of the tenants
and how much those rentals are under their corresponding lease terms.
4. Impact of accounting for leases with financial ratios.
The leverage ratio is the amount of a bank's debt relative to its equity / capital. The debt
levels are specific, for example, Debt to equity= total debt / capital equity owners. As well as
profitability ratios are a collection of accounting indicators used in determining the company
'ability to generate profits over time, utilizing statistics from a given point in time, in comparison
to its revenues, operating costs, balance sheet assets and equity. IFRS 16 will result in
capitalization of most of the current operating leases and find out all leases to balance sheet of
lessees. Due to which return on earning and return on assets ratio will be affected.

According to You (2017), The separation of leases into functional and financial leases for
accounting purposes will give rise to opportunities to encourage operational lease arrangements
as they prevent managing debt. A long term cooperative lease agreement is carried out by the
IASB and FASB. Examined the impacts on two firms in the airline industry in United Kingdom
of the report released in 2010 by IASB and FASB. On the premise that the leasing term is 5
years, the interest rate is 6 and 30% of the life periods of the properties have been included, and
the ratio of unregistered properties to unregistered liabilities has now been estimated as 58% on
presumption that the leases are for unregistered assets. It contrasted and analogue the financial
statements components (actives, liabilities, equities and net profit) and the performance ratios
(complete liabilities / actions, complete liabilities / equity, long-term liability / equity, return on
the asset) for a calculation of the influences of the capitalization of the leases of five firms from
five separate sectors. The analysis showed that supermarket firms are the ones impacted in the
top / smallest way by the capitalization of leases. The effects of the operational leasing after
capitalisation after the amendments to IAS17 are based on the financial statement after
capitalization. As a consequence, they claimed that adjustments pertaining to the financial report
and financial ratios will have significant consequences. They also noted that in order to analyze
the effect of lease capitalization on financial ratios and financial reporting of companies in the
London Stock Exchange they also noticed that the capitalization of the leases has a significant
influence on the company's financial accounts and those improvements in cash, debts.
According to Veverková (2019), When the valuation of the rented properties is equal to 70% of
the valuation of unrecorded loan liabilities, it was estimated that the liability / equity level would
rise to 4.532, beginning with 1.609, in case the figure is equivalent to 70% of the volume of the
non-recorded lease liabilities, which thus rises to more than twice the average of r. Moreover, the
non-registered lease liabilities have been identified to reflect up to 89.5 percent of the liabilities
reported and the non-registered assets to compensate for up to 39.4 percent of the assets listed.

REFERENCES
Books and journal:
Morales-Díaz, J. and Zamora-Ramírez, C., 2018. The impact of IFRS 16 on key financial ratios:
a new methodological approach. Accounting in Europe, 15(1), pp.105-133.
Capkun, V., Collins, D. and Jeanjean, T., 2016. The effect of IAS/IFRS adoption on earnings
management (smoothing): A closer look at competing explanations. Journal of
Accounting and Public Policy, 35(4), pp.352-394.
You, J., 2017. The impact of IFRS 16 lease on financial statement of airline companies (Doctoral
dissertation, Auckland University of Technology).
Veverková, A., 2019. IFRS 16 and its Impacts on Aviation Industry. Acta Universitatis
Agriculturae et Silviculturae Mendelianae Brunensis, 67(5), pp.1369-1377.
Duke, J. C., and Hsieh, S-J (2006).Capturing the benefits of operating and synthetic leases. The
Journal Corporate Accounting & Finance, 18(1), 45-52.
Goodacre, A. (2003). Operating lease finance in the UK retail sector. The International Review
of Retail, Distribution and Consumer Research, 13 (1), 99-125
Bostwick, E. D., Fahnestock, R. T., and O'Keefe, W. T. (2013).Effects of lease capitalization
techniques on key measures of financial performance. Journal of Finance &
Accountancy, 12, 91-102