In an ever-evolving business landscape, the importance of succession planning, particularly in manufacturing businesses, cannot be overstated. An unexpected or unplanned for departure of a key employee can be devastating to a company’s productivity, reputation, and business. Proactively protect what you’ve built by making succession planning an ongoing part of doing business.

Succession planning is a strategic process that ensures business continuity by identifying and developing potential successors for key positions, thereby mitigating the risks associated with unexpected absences, departures, or retirements.

In the realm of manufacturing, the stakes are even higher as these businesses are often highly specialized, with unique operational nuances and specific skill requirements. This sector thrives on stability and predictability, and unexpected leadership gaps can have a disruptive impact on production, client relationships, and overall business performance.

Succession planning involves forecasting the future needs of the business, identifying the competencies and skills required for key roles, and developing existing employees to take on these roles when the need arises. It is a proactive approach, focusing on the development of a talent pipeline that can step up when an executive or key staff member leaves.

There are several steps to effective succession planning. First, recognize critical roles that are vital to the organization’s operations and performance. These positions often have a high degree of responsibility and require specific skill sets.

Next, identify high-potential employees who demonstrate the aptitude and ambition to rise to these roles. Utilize performance appraisals, leadership assessments, and feedback from supervisors to pinpoint these individuals. Remember, potential does not only refer to performance. It also includes the ability to learn, adapt, and grow, which are crucial in a manufacturing environment.

Once potential successors are identified, invest in their professional growth. Tailored development plans can help them acquire the necessary skills and knowledge. This could involve on-the-job training, mentoring, job rotations, or even further education.

Communication is also a key aspect of succession planning. Be transparent about the process, the identified successors, and their development plans. This can help manage expectations and ensure everyone is on board with the plan.

Periodic review of the succession plan is crucial. As the business changes, so too may the requirements for key roles, and the identified successors. Regular reviews allow for adjustments and ensure the plan remains aligned with the business’s strategic direction.

However, the succession planning process does not end with the appointment of a successor. There should be a structured handover process to facilitate a smooth transition. This includes knowledge transfer, introduction to key stakeholders, and gradual assumption of the role’s responsibilities.

Succession planning is an indispensable strategic process for manufacturing businesses. It fosters a culture of continuous learning and development, ensures leadership continuity, and minimizes disruption during transitions.

By identifying and nurturing potential successors, manufacturing businesses can ensure their long-term sustainability and success. Remember, the future can be unpredictable, but with a robust succession plan, your business can be prepared for whatever comes its way.

RBT CPAs business advisory services professionals are available to assist you with creating, monitoring and updating succession plans. We are also prepared to handle all of your accounting, tax, and audit needs. Interested in learning more? Please don’t hesitate to give us a call and find out how we can be Remarkably Better Together.

RBT CPAs is proud to say 100% of its work is prepared in America. Our company does not offshore work, so you always know who is handling your confidential financial data.

Do you feel like you’re losing time trying to track down data and spreadsheets to make important decisions? Are you overwhelmed by the number of programs or systems you have that don’t “talk” to each other?  Have you lost business, profits, or productivity due to data issues? Do compliance and regulatory issues keep you awake at night? Maybe it’s time for you to consider adopting an Enterprise Resource Planning or ERP System.

Who can adopt an ERP?

While a commonly held belief is that ERPs are only for large public companies that’s simply not true. The cloud and technology advancements have made it more affordable and accessible to businesses of all sizes. Today, ERP systems are available for small, medium, and large businesses.

What is it?

ERP stands for Enterprise Resource Planning. It’s a business software solution that can help you manage your data, resources, and operations. Rather than having different systems for distinct functions, an ERP integrates and automates a variety of processes and functions, which can include accounting, customer relationship management, e-commerce, finance, Human Resources, inventory management, manufacturing, marketing, procurement, productivity tracking, sales, supply chain, time systems, scheduling, and more.

An ERP can be modular and scalable, making it easy to add new features and capabilities as your business grows and/or needs change. Some are even customized by industry. While available on-premises (which requires heavy IT infrastructure and staffing investments), the cloud has made it possible to offer ERP capabilities on a subscription basis, prompting businesses big and small to adopt one as part of a larger digital strategy.

When should you consider moving to an ERP?

If you’re losing time, customers, productivity, profits and/or opportunities because of your current systems (or lack thereof)…if you can’t use data to make informed decisions in a timely manner…if you don’t have a big picture view of all aspects of your operation at any given moment…if you’re operating inefficiently…or if your business is having a growth spurt with no end in sight, it may be time to consider adopting an ERP.

Where can it deliver improvements and value?

It can help your business be more competitive by identifying and changing processes to operate more efficiently and effectively; use data to schedule production and projects more effectively; more accurately estimate and track product costs; make better, faster decisions; improve customer service; automate mundane tasks so staff can focus on value-added activities; operate more efficiently and reduce lead times while maximizing production and profitability; and use data for predictive modeling (what would happen if…) and real-time decision-making.

It can also improve your internal controls for accounting and financial reporting and compliance; set the stage for growth, whether that’s with a new business model or a new line of business; and support remote and distributed workers.

It may be considered by lenders, investors, potential business partners or a business sale as governance and business practices come under scrutiny.

Why move to an ERP?

It can offer numerous benefits. An ERP can help you improve data security, reduce operational and administration costs, make data-driven decisions, and serve as a framework that can support future growth. It also requires you to define controls that can help protect your business from fraud and other criminal activities, while boosting regulatory compliance.

How do I get started?

Start by doing some research of your own to learn about ERP systems tailored for manufacturing businesses like yours, what they offer, and pricing (many offer monthly subscription options). You may want to reach out to colleagues in trade associations to learn about their experiences with an ERP. It’s also a good idea to define your budget up front and even conduct a cost-benefit analysis to make sure it’s the right time and move for your business. Plan accordingly – it can take an average of three to nine months to implement a new system, train staff, and monitor outcomes. Finally, don’t underestimate the amount of work involved. An ERP implementation requires dedicated resources and hard work. When done right, the pay off can be quick and bountiful.

You may also consider reaching out to your RBT CPAs contact to learn how we’ve helped other clients choose and implement ERP systems. Also remember, to free you up to focus on projects like ERP implementations, RBT CPAs is here to help with your accounting, tax, audit, or business advisory needs. Interested in learning more? Give us a call today.

RBT CPAs is proud to say 100% of its work is prepared in America. Our company does not offshore work, so you always know who is handling your confidential financial data.

Later this year, new rules are expected to be issued, standardizing what and how large public companies report on ESG (environment, social and governance).

Even if your business is not subject to these rules, it will likely feel the impact, so it’s a good idea to get acquainted with ESG and start preparing (or updating) your own ESG plans now.

As previously reported by RBT CPAs, “This October, the Security and Exchange Commission (SEC) is expected to issue rules to standardize how companies assess, measure, manage and disclose ESG related risks, including emissions resulting from assets not owned or controlled by a reporting organization. So, even if you aren’t subject to SEC rules, someone may be asking for your ESG measures for their own reporting purposes.  

Investors want information about it. Clients are looking for it. Lenders and credit rating agencies may consider it and it’s becoming a growing part of insurance and regulatory conversations. Communities judge by it, as do employees and recruits. It can impact business valuations and capital raising, and increase interest from larger organizations looking to grow through mergers and acquisitions.”

Let’s look at what this means specifically for manufacturers.  A recent Forbes.com article, entitled ESG Principles: Why Manufacturers Must Embrace Sustainability (Henrichsen, Jorge Gonzalez. July 11, 2023), defines ESG for manufacturing this way: “Environmental principles refer to a company’s environmental impact, including its carbon footprint, waste management and energy consumption. Social principles refer to a company’s impact on society, including employee welfare, diversity and inclusion, and community engagement. Governance principles refer to a company’s internal policies and procedures, including transparency, accountability, and risk management.”

It goes onto say, “Pressure continues to mount on manufacturers to meet these sustainability standards, a chorus joined by governments, boards, investors and consumers.”

At the same time, though, one of the biggest motivators for getting on the ESG bandwagon is very simply that it’s good for business. It can help your business operate more efficiently, identifying new ways to get work done and reducing waste. It can help you attract and retain talent – employees feel good about working for a company that genuinely cares about them and the planet. And, it can even help you compete and lead you to new business opportunities, as buyers look to source locally (and reduce fossil fuel use for transportation, for example) and look for businesses that can contribute to their ESG goals (by using more sustainable packaging, as an example).

Another Forbes.com article — Behind All The ESG Virtue Signaling, There’s A Real Opportunity For Manufacturers (Karp, Ethan. March 31, 2023) – discusses three ways small manufacturers can jumpstart their ESG plans:

1. Adopt industry 4.0 technology. “Sensors help factories increase machine efficiency on the production line and reduce fuel consumption. Automation can increase profits and employee safety. If manufacturers look for opportunities to use technology to simultaneously improve the bottom line and advance ESG, it will make significant Industry 4.0 investments even easier to justify.”
2. Innovate using ESG. Numerous start-up manufacturers are building their businesses around an ESG value proposition, both in terms of what they make and how they make it. As a result, they’re working smarter and tapping into the growing percentage of consumers willing to pay a premium for products that reflect ESG values.
3. Focus on your supply chain. From increasing dependability and reducing the risk of ESG violations (i.e., using child labor) to promoting competitiveness and managing operating expenses, reinventing a supply chain to align with ESG values can offer numerous advantages.

We’ll provide more information when the new SEC rules and standards are issued this Fall. In the meantime, if you need time to focus on ESG plans and other work, remember, you can count on RBT CPAs to handle your accounting, tax, audit, and business advisory needs. We believe we succeed when we help our clients succeed. To learn more, give us a call today.

RBT CPAs does not outsource work to any other country. All of our work is prepared in the U.S.A.

Survey after survey is showing the same thing – businesses need to get back to basics to create the type of work environment that attracts and keeps employees. With almost 50% of employees looking for a new job in the first half of 2023 (Solutions, 2022), creating a workplace that attracts and retains talent has shifted from an HR problem to a C-suite strategic imperative, and time is of the essence.

The current labor situation is different from any in our country’s history in one major way: there are simply more jobs than people to fill them. A recent article on Bloomberg.com summed up the result, stating, “The time has arrived when America’s demographics are conspiring against its economic ambitions.” (Donnan, 2023) This sentiment holds true, according to a 2022 Manufacturing Institute/Deloitte study reporting almost half of manufacturing executives had turned down business opportunities due to the lack of workers (Institute, 2022). The situation is not going to get better any time soon, with the Congressional Budget Office predicting the American workforce will grow by less than .2% a year through 2031 (Office, 2023).

Many employers have set their sights on finding new, leading-edge solutions to address the crisis. No doubt innovation has its place, but so does creating a mutually beneficial, healthy employer-employee relationship and workplace based on fundamentals.

In January, Gallup reported that employee engagement is at its lowest since 2015, with the biggest declines in clarity of expectations; connection to the mission or purpose of the company; opportunities to learn and grow; opportunities to do what employees do best; and feeling cared about at work. The path to drive improvements isn’t new (ask employees for feedback; make changes based on feedback; clarify expectations; share and celebrate positive results); but, Gallup does have decades of proof that it works (Harter, 2023).

Another survey’s results issued in January, this time by the Conference Board, reinforce the crucial role fundamentals play in creating a workplace that works for today’s employee. The 2023 C-Suite Outlook Survey identified four strategies to create a better workplace: prioritize employee wellness to promote physical, mental, and financial health, as well as stress management; embrace flexible work arrangements; invest in all employees’ professional development; and strengthen succession plans. (Board, 2023)

There’s more. Executive Networks’ “The 2023 Future of Working and Learning Report” points to upskilling as the most critical aspect of organizational success this year. 45% of knowledge workers and 30% of front-line workers said people are leaving their company due to insufficient career advancement or development opportunities. About 83% of HR leaders and 79% of business leaders agree skills-based training should be used as a retention tool. (Networks, 2023)

Together, these survey findings and reports tell a powerful story: businesses need to get back to basics and walk the talk when it comes to creating the type of work environment that attracts, retains, and grows skilled talent. Still, this appears easier said than done.

The Manufacturing Institute with support from Colonial Life issued a report in November called: “The Manufacturing Experience: Closing the Gender Gap.” It says: “As it stands, women make up more than 29% of the manufacturing workforce. By raising the percentage of women in the manufacturing sector to 35% of total employment in the sector, there could be 800,000 more female manufacturing employees. This would be enough to fill almost every open job in the manufacturing sector today.” (Life, 2022)

It sounds easy enough until you look at decades-old issues like pay equity. The Pew Research Center issued a report in March stating, “The gender pay gap in the U.S. persists, and in fact, has barely budged during the past two decades.” In 2002 women earned 80 cents on the dollar as compared to men. Twenty years later, the pay equity gap improved by just 2 cents, with women earning 82 cents for every dollar earned by men in 2022. (Kochhar, 2023)

Another disconnect relates to diversity, equity, inclusion and belonging (DEIB) initiatives. A survey commissioned by Indeed.com earlier this year found 49% of Black workers are considering or actively looking for another job due to unfair compensation, lack of career advancement, and lack of managerial support. Survey respondents indicate the actions companies take for DEIB (i.e., diverse hiring practices, diversity committees and awareness events) simply do not align with what Black employees want (i.e., pay transparency and equity; scheduling flexibility for work/life balance; and increased representation). (Team, 2023)

A presentation at the International Manufacturing Technology Show reinforced the disconnect. Cofounder of Thurgood Industries Darnell Epps said, “Black unemployment in our big cities is extraordinarily high, yet there’s very little outreach and recruitment in communities of color throughout our big cities. In Philly, LA, NYC…black unemployment in February was above 15%. In Detroit it was about 20%. More could be done with regard to the industry and with trade schools in focusing on those populations that have been underserved and have historic levels of unemployment and underemployment.” (Webster, 2022)

No doubt there is a place for innovations like artificial intelligence, employer/education/government collaborations, and more to address the labor crisis, but equal focus and effort should be given to getting back to the basics that create a great workplace, and really committing to drive long-lasting progress.

Good people are hard to find. Keeping them is even harder. With an estimated 2.1 million unfilled manufacturing positions in the U.S. by 2030 according to the National Association of Manufacturing, manufacturing companies of all sizes need to take action now to attract and retain employees needed for business success today and tomorrow.

Unlike in the past, today’s manufacturer is not only competing against other manufacturers of its size. The war for talent crosses all industries and organization sizes. Whether you’re up against an industry behemoth that can afford top pay and benefits or the restaurant across the street that’s matching your company’s pay for easier work, bringing your recruiting and retention efforts to a new level isn’t optional – in fact, it’s imperative.

Here are five ways other manufacturers are winning the war for talent:

1. Grow your own talent. As reported in com, when Lucid Motors needed skilled workers for a new plant, it partnered with government, a community college, and the state’s economic development team to build and equip a state-of-the-art training facility focused on car assembly. All 700 of its new employees were trained at the center and ready to work when the new plant opened. Similarly, BMW expanded an apprentice program to four community colleges; opened new training paths for high school seniors; and invested $20 million on a new training center for professional development and technical training. (Keaveny, Chris. “To Address Labor Shortages, Manufacturers Must Become Talent Creators”. 2022. IndustryWeek.com.)
2. Don’t look in the usual places. Everyone else is already doing that. As reported by MITSloan, “Amsted Rail, a manufacturer of systems and components for freight and transit railcars, is collaborating with a program called c.stars, which puts young adults with a high school diploma or GED through a 14- to 16-week training program followed up by job placement.” (Stackpole, Beth. “Practical ways to tackle manufacturing’s labor crunch.” 2022. MITSloan.MIT.Edu.) Rather than a general job posting site, check out FactoryFix.com’s recruiting automation solution to gain access to a community of 700,000+ manufacturing workers.
3. Consider “second chance” hiring. As reported by the National Association of Manufacturers, JBM Packaging and Saint-Gobain found engaged and productive employees who would stick around by starting programs to recruit and hire individuals with criminal records. The majority of these employees fill entry-level positions, but about 10% have mechanical, machinist, and other technical skills – that doesn’t even get into the potential tax credits through the Work Opportunity Tax Credit or WOTC. (NAM News Room. “How Manufacturers Should Pursue Second Chance Hiring.” January 2023. org.)
   
4. Explore how technology can help you get more work done with fewer people. As reported on com, robotic arms can perform assembly line work; autonomous guided vehicles can transport materials through warehouses and on factory floors; 3D printing has significantly reduced the time required to create design solutions; autonomous machine vision solutions can track, sort, count and do visual quality inspections; and AI-powered systems can connect and manage the manufacturing process from start to finish. (Gow, Glenn. “The Labor Shortage Is Killing American Manufacturing. Here’s How AI Can Bring It Back to Life.” August 2022. Forbes.com.)
5. Be willing to change. As reported by the Triad Business Journal, at the least, pay needs to be at the marketplace median. Consider novel benefits that are genuinely meaningful to today’s workforce. Let go of outdated policies and practices. Create a workplace people want to be part of. Once you’ve made all of these updates, consider reaching out to ex-employees and letting them know what you’ve learned, how you’ve changed, and how valued they’ll be if they come back. (Brannock Jr, R. Michael. “Manufacturers. It’s Time to Get Serious About Talent.” October 2022. Bizjournals.com.)

For additional insights and assistance recruiting and retaining talent, contact RBT CPAs’ affiliate, Vision Human Resource Services. For accounting, audit, business advisory, and tax services, reach out to your local RBT CPAs office.  We’re the largest accounting firm in the Hudson Valley and we believe we succeed when we help you succeed. Give us a call today.

While the state of U.S. manufacturing for year end 2022 and the start of 2023 doesn’t look great, data seems to point to New York manufacturers facing tougher times than others. In general, 2022 ended up better than most thought it would but worse than they had hoped. The picture – based on January data – is somewhat dimmer for New York manufacturing, for at least the first half of 2023.

The S&P Global U.S. Manufacturing PMI for December was 46.2 (seasonally adjusted), a decrease from 47.4 in November the first time it fell below 50 since June 2020 and a decline in the sector’s health driven by weak demand (attributed to economic uncertainties and inflation), which drove output and new order contractions. By January 2023, it was slightly higher, showing contraction easing but factory activity falling for the third straight month. New orders, output, and inventories were down. Sales were subdued and demand was weak. Input costs and output charges were increasing even though supplier delivery times were stable and input buying contracted. Still, business confidence was up with hopes of stronger demand ahead, greater supply chain stability, and new product investments. (Trading Economics. “United States Manufacturing PMI.” https://tradingeconomics.com/united-states/manufacturing-pmi)

CFO.com reports: “The silver lining in all this, if there is one, is that December data showed cost burdens softening — the most since July 2020. ‘Respondents said lower prices for fuel, metals, and oil-related products dampened the overall upturn in operating expenses,’ according to S&P. Selling prices to customers also slowed at the fastest pace in two years because manufacturers passed through savings in an effort to stimulate sales amid the strong dollar.” (Ryan, Vincent. CFO.com, “December’s 64.2 Manufacturing PMI Shows Industry Contracted.” January 4, 2022. https://www.cfo.com/risk-compliance/supply-chain/2023/01/manufacturing-contraction-pmi-purchasing-managers-index-sp-weak-demand/)

According to January’s Empire State Manufacturing Survey, manufacturing activity in the state saw a big decline. As noted in the report issued by The Federal Reserve Bank of New York (The Fed), “The general business conditions index fell 22 points to -32.9, its lowest level since mid-2020 and the fifth worst reading in the survey’s history.”

• 44% of respondents indicated conditions worsened during the month, while 11% saw improvements.
• New Orders Index dropped 28 points to -31.1.
• Shipments Index dropped 28 points to -22.4.
• Unfilled Orders Index decreased to -14.3, so more orders were getting filled.
• Delivery times were unchanged.
• Inventories Index was steady at 4.5, “pointing to a small increase in inventories.”
• Employment growth stalled.
• The average workweek shortened.
• Input price increases slowed dramatically.
• Selling price increases moderated.

The report also states: “Looking ahead, firms expect little improvement in business conditions over the next six months.”

How are manufacturing companies responding? The 2023 BDO Manufacturing CFO Outlook Survey identifies the strategies survey participants indicated they are taking to build resilience in 2023, including 48% taking Inflation Reduction Act clean energy incentives; 39% cost optimization/reduction; 36% digital transformation; 25% restructuring or reorganizing; and 21% are focused on understanding tax implications of business decisions. (Note that two of the five actions relate to tax planning and strategy.)

While you focus on what you can do from a manufacturing point of view to ride out these uncertain times, remember you can count on RBT CPAs accounting, tax, audit, and business advisory professionals to help your business develop and execute a tax plan to help build overall business resilience. We’ve been serving manufacturing companies in the Hudson Valley and beyond for over 50 years and believe we succeed when we help our clients succeed.

To learn more about creating a tax strategy that promotes resilience, give RBT CPAs a call today.

Handing over the reins to a family business should be a source of pride, accomplishment, and peace of mind; unfortunately for many, it results in family strife, erodes wealth, and leads to business collapse. So, how do you protect your family and a business you – and maybe even a few generations before you – spent life building? A strategic, well-thought-out, and executed succession plan is key.

At its simplest, a succession plan is a way to set up the next generation for success by defining how to transition management and ownership of a business. In Deloitte’s Business Succession Planning collection, it’s noted that a succession plan can drive business growth, lower taxes, set the stage for retirement, and preserve family harmony. It is also anything but simple.

According to ScholarWorks, 90% of the global economy is represented by family businesses; unfortunately, 70% of those have a first-generation failure rate. The goal of a succession plan should be to understand, preserve, and grow the business’ value and pass it on.  Without a strong succession plan, families break up and go to court. Performance and reputation suffer, while disruption, conflicts, and uncertainties arise.

Enough said? Don’t rush to name your next CEO or get your estate planning underway just yet. While you may have the best of intentions, a succession plan involves a lot more than that. It could include a CEO job description, governance, and future strategic business plans while accounting for different skills and interests of new leaders, business context, and the changing marketplace and business environment.

A succession plan may define the process for planning; choices of entity structure, valuation, and financing; talent assessment, development, and compensation; estate planning including gift taxes, life insurance, and investments; and balancing business needs and family concerns to drive success. FamilyBusinessMagazine.com’s 9-step roadmap for succession planning suggests also addressing business transition, business strategy, risk assessment and contingency, and organizational business management planning.

An EY survey of large, longstanding family businesses around the world revealed that “they lay the groundwork for new leadership long before succession occurs” by defining who is responsible for succession; focusing on preparing the next generation; nurturing an entrepreneurial culture, and attracting top talent.

As reported in Harvard Business Review, “Just as a business must reinvent itself as markets shift, so must a business family reinvent (or at least thoughtfully revisit and refresh) its ownership and leadership model.” It suggests doing a few things in advance of making succession decisions:

• Articulating family dynamics and how they’ve changed since the start of the business (or transition from the last generation).
• Learn from other business families about how they managed the transition, who helped them, what worked and what didn’t, and any other advice they may have.
• Respect tradition but don’t be trapped by it; be open to new ideas and leave behind outdated preconceptions.
• Take time to let your plans evolve. Regularly review, update, and change directions when necessary.
• Be transparent and maintain open communication with all interested parties so there’s a shared view of the future that family, employees, and communities can buy into.

Remember, succession planning is a long-term, ongoing process – not an event. A successful succession plan can fill a need brought on by a variety of planned (i.e., retirement) and unplanned (i.e., health issues or death) events. Finally, the best time to put a plan in place is before it’s actually needed.

For more information on taxes, estate planning, and accounting in general, contact RBT CPAs, which has been serving Hudson Valley businesses for over 55 years.

The new lease accounting standard – ACS 842 – took effect for private and non-profit organizations for fiscal years starting January 1, 2022 (or 2023 for non-calendar year-end entities). While that means at the earliest your organization must account for all leases on your financial statements by the end of this year, there’s a lot of work to be done to meet the new standards. If you haven’t started, now is the time. If you wait until year-end, it will probably be too late.

First, a number of departments/functions may be affected by the change. This includes accounting, tax, real estate, equipment leasing, procurement, treasury, information technology, and legal. Consider creating a task force with representation from all impacted areas to put together a project timeline and plan.

Second, there are several activities you’ll need to complete, from policy development to data management and extraction to technology design, workflow, implementation, and more.  Perhaps one of the biggest considerations is whether you should be adopting a technology solution to automate identifying lease language, monitoring, bookkeeping and more, which is something we strongly recommend.

So, if you haven’t already started, you need to catch up now.  Waiting for year-end is not an option. If you need a refresher or to get reacquainted with ACS 842, following is an overview (originally published by RBT CPAs in August 2021 and updated for manufacturing companies).

RBT CPAs has partnered with Trullion – a lease management software company – to use modern technology to streamline the process. If you are interested in learning more about how this may benefit your organization, give us a call.

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Did you know that, in a matter of months, your leases will be accounted for differently due to the new lease accounting standard? While previously only capital leases were recorded on the balance sheet, effective for fiscal years beginning after December 15, 2021, all leases will be on the balance sheet. That translates to January 1, 2022 for calendar year entities, and fiscal 2023 for non-calendar year end entities.

What does this mean moving forward? It means all manufacturing organizations need to make sure they have a thorough handle on all of their leases that are for longer than 12 months, including those related to real estate and operations. Especially if your organization has been leasing more equipment or space, the number of leases you may need to review and track could be quite large. Now is the time to review and evaluate contracts.

The new definition of a lease under ASC 842: “A contract, or part of a contract, that conveys the right to control the use of identified property, plant, or equipment (an identified asset) for a period of time in exchange for consideration.” This slight change means that all contracts should be evaluated to determine if they fall within the scope of this new criteria. Contracts that were previously considered leases may no longer meet the lease criteria and vice versa. Be mindful of lease language when you are reviewing your contracts.

There will still be two categories of leases. The leases formerly known as capital will now be called finance leases. The classification criteria remain essentially the same as under the existing standard; the only major difference is the elimination of the bright-line percentages.  All leases that do not meet one of those criteria will be classified as operating.

If a lease contract includes a non-lease element, that non-lease component must be accounted for as a separate contract distinct from the lease itself. For example, the cost of an equipment lease that includes a maintenance contract must be allocated between the two elements and accounted for separately.

Lease liabilities for operating and finance leases will all be accounted for in the liability section the same way capital leases currently are: split between current and long-term. The offset to the liability will be a right of use (ROU) asset. There will be two lines: a ROU asset – operating lease line, and a ROU asset – finance lease line. These ROU assets are all long-term.

The new standard was designed so that there should be minimal impact to your income statement. Operating leases will continue to be recognized as a straight-line expense over the life of the lease. Finance leases will continue to be frontend loaded because the interest is higher at the beginning of the lease than at the end.

The most significant impact will be on the company’s current ratio. Because the ROU assets are all long-term, but the lease liability is split between current and long-term, the current ratio will be negatively impacted. This change will be particularly important for entities with debt covenants that reference the current ratio. If you have significant operating leases that may create an issue with your debt covenants, connect with your bankers now.

Ultimately, it’s important that both the borrower and the lender understand that this is a reporting change, not a change in a company’s financial situation. Having this conversation early on instead of waiting until the last minute will avoid confusion, and a lot of headaches.