Corporate Research - Nordea Markets · PDF fileCorporate Research 19 ... All other leases were classified as operating leases and not reported ... and what used to be a fixed monthly

Corporate Research 19 June 2017

Contents

IFRS: Comparable and real financial reporting 2

Interview: Ensure investors are not shocked 5

Interview: Leasing not going away after IFRS 16 9

IFRS 16: Leases turn to debt – who might be hit? 13

Interview: IFRS 16 in the eyes of the beholder 19

Disclaimer and legal disclosures 22

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Corporate ResearchEquity Research 19 June 2017

IFRS 16: The return of the leases

Off balance sheet leases moving onto the balance sheet from 2019A Nordea On Your Mind on accounting practices? Yes, because it will greatly impact how investors and lenders view affected companies. The new IFRS 16 reporting standard will force all companies that report under IFRS in 116 countries around the world to start including operating leases on their balance sheets from 1 January 2019. Leased assets and associated lease debt will move onto balance sheets, and current (operating) leasing costs will be replaced by interest costs and depreciation. Companies with major operating leases will no longer appear asset-light.

Our screening analysis shows an adverse impact on reported leverage for listed Nordic corporatesIn a joint effort with Nordea Markets Risk Advisory, we have carried out a screening of 206 listed Nordic large corporates, examining what reported 2016 numbers look like before and after our estimate of the impact from the implementation of IFRS 16. On median values, EBITDA will rise by 9%, but net debt will increase by 17%, nearly twice as much, pushing the equity ratio down from 44% to 41% and net debt/EBITDA up from 0.75x to 1.17x. Moving leases back onto balance sheets will also create FX risks for corporates with lease payments in foreign currencies.

Airlines, retailers and hotel operators will be most affectedRetailers and hotel operators are mainly affected through rental contracts for premises, while airlines also have leased aircraft. According to our screening analysis, the companies seeing net debt/EBITDA deteriorate the most following implementation of IFRS 16 will include Finnair, SAS, Rezidor, XXL, Kesko, Outotec, H&M and Clas Ohlson.

To avoid potential shock from the balance sheet changes, companies should prepareBusiness operations and underlying cash flows will not change under IFRS 16, but reported numbers will look significantly different for some companies. Implementation is only 18 months away and we see a need for the most affected companies to guide and inform external parties such as investors, lenders and suppliers about what is coming. IFRS 16 should improve reporting transparency and the accuracy of underlying business performance, and any shock or surprise from a potential jump in reported leverage could be avoided by helping to ensure interested parties are well informed.

Interviews with those who know: SAS, EY and NordeaIn this issue, we interview Ilkka Kesti and Linn Sjöblom from Nordea Markets Risk Advisory, who have been instrumental in creating our IFRS 16 analysis. We also include our interviews with SAS's Göran Jansson, CFO, and Jan Torberger, Group Treasurer, on how reported numbers and the use of leases might change after IFRS 16, and with Dan Phillips, Executive Director and IFRS specialist from EY, on how it will affect corporates.

Reported net debt increase from IFRS 16 by industry sector for sample of 206 listed Nordic companies

Sector ChangeConsumer Discretionary 32%Industrials 20%Healthcare 20%Information Technology 18%Telecommunication Services 16%Energy 16%Consumer Staples 11%Utilities 7%Materials 7%Total 17%

Source: Company data and Nordea Markets

MarketsIMPORTANT INFORMATION AND DISCLOSURES AT THE END OF THIS REPORT


IFRS: Comparable and real financial reporting

IFRS is the most recent step towards the further harmonisation of different national financial reporting standards worldwide. It was introduced in 2003, replacing IAS, and is used in 116 countries. IFRS has rolled out 16 new, specific reporting standards since its inception, and next in line is IFRS 16, coming into effect from 2019. This will move operating leases back onto corporate balance sheets as assets and debt and will replace lease costs in the P&L with depreciation and interest costs. Effects on individual companies will vary, with some seeing significantly higher reported financial leverage.

Financial reporting standards have historically been national, sometimes differing greatly

IFRS – What is it and where did it come from?Financial reporting, how companies present their financial results, is regulated nationally. This means that standards can vary – sometimes significantly – from country to country. A company that reports very healthy financial results in its jurisdiction could in theory appear not quite so financially healthy if it reported according to another country's accounting and financial reporting rules.

Efforts to harmonise reporting standards led to IAS being launched in 1973, which turned into IFRS in 2003

As investors, lenders and corporates themselves see a collective benefit in transparency and comparability in financial reporting, a lot of effort has been put over the years into attempts to harmonise financial reporting rules worldwide. The International Accounting Standards Committee (IASC) was founded in 1973, and issued a set of standards called IAS –International Accounting Standards. The IASC was responsible for setting standards until 2001, when responsibility was taken over by the International Accounting Standards Board (IASB). The IASB is the independent, standard-setting body of the IFRS Foundation, named after its new standards – International Financial Reporting Standards. British accounting legend, Sir David Tweedie, was the first chairman of the IASB, and former president of the US Federal Reserve, Paul Volcker, was the first chairman of its trustees.

The first big implementation of IFRS was in the EU in 2005

The first wave of IFRS implementation was in Europe (by all of the EU's 25 countries then), Australia, Hong Kong and New Zealand in 2005. Today, 116 countries across the world require IFRS for domestic, listed companies. The most notable exception is the US, which still uses its national standard US GAAP.

From the IFRS webpage:'International Financial Reporting Standards (IFRS Standards) is a single set of accounting standards, developed and maintained by the International Accounting Standards Board (the Board) with the intention of those standards being capable of being applied on a globally consistent basis—by developed, emerging and developing economies—thus providing investors and other users of financial statements with the ability to compare the financial performance of publicly listed companies on a like-for-like basis with their international peers.'

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IFRS standards since 2003

No. Title Originally issued Effective

IFRS 1 First-time Adoption of International Financial Reporting Standards 2003 1 January 2004IFRS 2 Share-based Payment 2004 1 January 2005IFRS 3 Business Combinations 2004 1 April 2004IFRS 4 Insurance Contracts 2004 1 January 2005IFRS 5 Non-current Assets Held for Sale and Discontinued Operations 2004 1 January 2005IFRS 6 Exploration for and Evaluation of Mineral Resources 2004 1 January 2006IFRS 7 Financial Instruments: Disclosures 2005 1 January 2007IFRS 8 Operating Segments 2006 1 January 2009IFRS 9 Financial Instruments 2009 (updated 2014) 1 January 2018IFRS 10 Consolidated Financial Statements 2011 1 January 2013IFRS 11 Joint Arrangements 2011 1 January 2013IFRS 12 Disclosure of Interests in Other Entities 2011 1 January 2013IFRS 13 Fair Value Measurement 2011 1 January 2013IFRS 14 Regulatory Deferral Accounts 2014 1 January 2016IFRS 15 Revenue from Contracts with Customers 2014 1 January 2018IFRS 16 Leases 2016 1 January 2019IFRS 17 Insurance contracts 2017 1 January 2021Source: Nordea Markets

IFRS and US GAAP are about to change reporting rules for off balance sheet leases

Up next: IFRS 16 will return leases as debtIn 2014 listed companies using international accounting standards (either IFRS or US GAAP) disclosed almost USD 3 trillion of off balance sheet lease commitments. Responding to concerns about the lack of transparency of information about lease obligations, bodies for the two major financial reporting rules (IFRS and US GAAP) have revised and improved accounting rules for leases. The new rules will put an end to leases staying outside corporate balance sheets. We believe almost 50% of listed companies using IFRS or US GAAP will be impacted by this new standard.

Financial leases have been on-balance sheet, while operational leases could be kept off balance sheet

Off balance sheet leases have made comparisons between companies who lease and companies who own assets more difficult

Previous lessee accounting under the current IAS 17 reporting standard focused on identifying when a lease is economically similar to purchasing the asset being leased (the underlying asset). When a lease was defined as economically similar to purchasing the underlying asset, the lease was classified as a finance lease (or a capital lease under US GAAP) and reported on a company’s balance sheet. All other leases were classified as operating leases and not reported on a company’s balance sheet (so-called “off balance sheet leases”). Accounting for operating leases has been very simple. They have been accounted for similarly to service contracts, which means that a company reporting a rental expense in its income statement (typically a fixed amount at regular time intervals, eg monthly). The absence of information about leases in the balance sheet meant that investors and analysts were unable to properly compare companies that buy and own assets with those that lease assets, without making adjustments.

IFRS 16 will come into force from 1 January 2019 for all leases which are material or have a duration of more than 12 months

Financial reporting for lessors will not see any significant changes

The new reporting standard, IFRS 16, will apply to annual periods beginning on or after 1 January 2019, although early adoption is permitted with some restrictions. Companies may also choose to exclude leases that are immaterial or have a term of 12 months or less. The corresponding standard in the US, the US GAAP leases standard, is effective for public companies, certain non-profits and benefit plans for interim and annual reporting periods beginning after 15 December 2018 (private companies have one more year to implement the change). The accounting for lessors remains pretty much unchanged but these companies might be experiencing changes in the behaviour of their customers and might therefore need to adjust their business model and lease products.

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Operational leases will move back into balance sheets as assets and debt, and depreciation and interest costs will replace leasing costs on P&Ls

Implications from IFRS 16 on financial reportingSo how might adoption of the IFRS 16 reporting standard affect the numbers that companies report? Simply put, operational leases will move back onto corporate balance sheets as assets (the ones leased and used) matched by debt (consisting of the present value of the lease payments over the life of the lease contract). In addition, the corporate P&L will be burdened by depreciation and interest costs for the leased assets.

In other words: assets and debt will increase, and what used to be a fixed monthly operating (lease) cost will be replaced by depreciation and interest costs. The net impact on balance sheet and P&L will vary by company.

Lease assets will be matched by liabilities corresponding to the present value of lease payments

Lease payments consist of debt amortisation (which will continue to affect cash flows), interest and depreciation (both going into P&L)

More specifically, companies should apply IFRS 16 to their operating leases as follows:

Initial recognition and measurement: Lessees are obliged to initially recognise a lease liability reflecting the obligation to make lease payments and a right-of-use asset for the right to use the underlying asset for the lease term. The liability is measured at the present value of lease payments to be made. The asset is initially measured at the amount of the lease liability, adjusted for any prepayments and direct costs.

Subsequent measurement: The lease payments are divided into two components in financial reporting. One part of the payments is treated as debt amortisation, which reduces the lease liability. The other part is treated as finance cost and reported in profit or loss. The related leased asset is depreciated in accordance with the depreciation requirements of IFRS. For lessees that depreciate the leased asset on a straight-line basis, the aggregate of interest expense on the lease liability and depreciation of the leased asset normally results in higher total periodic expense in the earlier periods of a lease.

Effects on financial reporting from IFRS 16

Effects on the income statement Effects on the balance sheet Effects on the cash flow statement

EBITDA

Operating profit and finance cost

Profit before tax Equity

Financial liabilities

Lease assets Cash from operating activities

Cash from finanicing activities

Total cash flow

Source: EY

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Interview: Ensure investors are not shocked

We interview Ilkka Kesti and Linn Sjöblom from Nordea Markets Risk Advisory on how IFRS 16 could impact companies with major off balance sheet leases. Although it is only 18 months away, companies seem to be far from ready for its implementation. While IFRS 16 will not fundamentally change businesses, it will lead to higher reported leverage for some, which will need to be carefully communicated with capital markets to avoid shocking investors and lenders. A potential upside for corporates is that greater transparency could lower leasing costs through greater competition.

Operational leases have allowed some investments which might otherwise not have been approved to be reported as capex

KK: The main argument for implementing IFRS 16 is raised transparency for companies that are major users of financial and operational leases. How do those companies that will be most affected by IFRS 16 view the changes to reporting? Are there objections or understanding for these perceived necessary changes?

IK: The new regulation, IFRS 16, will mean that financial and operational leases will be treated equally, and that almost all leases will be recognised as assets and liabilities on the balance sheet. Currently, operational leases are reported off balance sheet, while financial leases are reported on balance sheet. The absence of information about operational leases on the balance sheet has meant that investors and analysts are unable to properly compare companies that borrow to buy assets with those that lease assets, without making adjustments.

We have also seen that some companies have taken advantage of operational leases to evade investment budgets; ie they have been able to lease assets which may not have met the criteria needed for approval as ordinary investments. For these companies, internal transparency will increase, and all investment projects will be treated equally. For external observers, it will be easier to see what kind of business the firm has, and how it is financed. It should also be easier for management to monitor and control the business.

KK: But how have the companies likely to be most affected by IFRS 16 reacted to the new reporting standard?

Most visible impact from IFRS 16 will be higher debt, which companies typically like to tone down

IK: The discussion among these companies has mostly been about communication – how will they inform the market? The most visible change will be the increase in liabilities, and the companies would like to tone that down as much as possible. The companies and businesses will be the same, so credit ratings and valuations should not fundamentally change, but it will be important to properly communicate the impact of IFRS 16 to avoid any unpleasant surprises or reactions.

KK: What have historically been the main arguments for using operational leases instead of owning the assets?

Operational leases have been simple with a single monthly fee for access to the asset and have enabled avoiding debt and depreciation risk

IK: First, it has been easy to handle operational leases as you only have to pay a monthly fee. Second, companies have been able to put the lease off balance sheet instead of carrying the debt used to fund buying an asset. Third, leases can let companies limit the residual value risk they take on assets they are using. And fourth, leases can include a service agreement for the assets leased, which could be a more favourable solution than making an own, separate arrangement for service and maintenance.

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LS: Another important advantage is that you don’t have to buy the assets, which is preferable for companies with tight cash flows. Also, if you do not intend to utilise the asset for a long period, it could be better to lease it instead of purchasing it. You simply want to avoid the depreciation risk.

KK: Will the rollout of IFRS 16 make more companies own operational assets, or will there still be potential benefits from leasing them?

IK: It will still be advantageous to utilise leases for some companies, for the reasons just mentioned. Hence, we do not believe that the new regulations will change companies' behaviour with regards to operational leases.

With that said, we believe that the market can change for other reasons. The fact that companies now have to report their leasing commitments on the balance sheet will cause them to put pressure on the lessors. The companies will likely want to control their leasing contracts to a greater extent, to make sure that the leasing assets and liabilities will be correctly valued and quantified.

As the leasing price will be more transparent, it should also become easier for companies to compare the cost of loan financing with the cost of leasing. Hence, the new regulations will likely make it easier for the companies to make smarter investment decisions.

KK: How do corporates who lease out operational assets (lessors) view IFRS 16? Do they see it as a potential threat to their business?

IFRS 16 will particularly affect financial reporting of lessees, while the accounting for a lessor will largely remain unchanged

LS: The implementation of IFRS 16 will not mean any significant accounting changes for the lessors. But, as we mentioned, price transparency will increase, which could trigger greater competition between lessors, potentially leading to price reductions.

IK: In that way, IFRS could be compared to MiFiD. All of a sudden, costs need to be visible, and with that comes potential price pressure. In the end, it is the customers, or in this case the lessees, who should be the winners.

KK: Are corporates prepared for the implementation of IFRS 16? Will there be significant costs for system upgrades, training or policy changes?

LS: You could split the main costs for the IFRS 16 implementation into three parts:

1.2.3.

System and process updatesEducation of employeesCommunication

Corporates know IFRS 16 is coming, but still consider implementation on 1 January 2019 far off

Generally, for these kinds of projects, my feeling is that the companies are a little bit behind - at least here in Sweden. The companies know about the new rules and what the impact will be. Some companies will need to make quite large investments in order to update IT systems, and to educate employees. Yet, I think that most of them feel that the implementation date of 1 January, 2019 is quite far off. I believe that the companies are currently prioritising other projects, thinking that the preparations for IFRS 16 can wait.

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KK: January 2019 is not that far off - it’s only 18 months from now! If the implementation means that you have to make system changes, you would think at least the most affected companies would need to begin to prepare for the changes now?

IK: Yes, in a perfect world, some of the companies should already have started, but most companies act on what is most urgent today and currently, that is not IFRS 16.

KK: Have you seen any differences among the Nordic countries, eg are Swedish companies ahead of, or behind, Nordic peers?

There are no major differences between the Nordic countries when it comes preparing for IFRS 16

IK: Spontaneously, I would not say there are any major differences between the Nordic countries, but we have not made any systematic comparison. Within the airline industry, where we find many of the potentially most affected companies, I would say the major players have come equally far in their analysis.

LS: Also, all accounting changes mean projects and costs, and we do not see that the IFRS 16 implementation will cost that much more, compared to previous accounting changes.

KK: How will corporates with major operational leases be affected by IFRS 16? Changed debt levels or asset values? Changed profitability? Changed leverage or other financial key ratios?

For corporates with operational leases, equity ratio and net debt/EBITDA will look worse under IFRS 16

IK: The balance sheet will increase which will affect many key ratios, such as the equity ratio and net debt/EBITDA. These ratios will look worse after the implementation.

EBITDA will actually also increase. For companies with off balance sheet leases, the operating lease expense will be replaced by a depreciation charge and an interest expense. However, the impact on final expenses will remain more or less the same after the IFRS 16 implementation. The changed expense profile could lead to a small tax effect though, which will affect net profit, but we expect this effect to be minor.

KK: Are capital markets prepared for these changes?

Analysts and rating institutes generally already adjust for operating leases in calculating debt – remains to be seen if investors do

IK: Well, that remains to be seen. Analysts and the rating institutes already take the operating leases into account when they do their analysis. They have standardised methods for doing that. When IFRS 16 is implemented, the companies will make their own estimates of the impact.

It could be the case that valuations or ratings of companies will change, if there turns out to be large differences between the companies’ own estimates compared with those previously made by analysts. Nevertheless, as the companies will have more information about their leases and contracts, the quality of their estimates should normally be higher than the analysts’ assessments.

KK: Do you see any risks of breached debt covenants?

Loan agreements typically include clauses preventing debt covenant breaches from accounting rule changes

IK: Companies will fundamentally stay the same after the IFRS 16 implementation, and their funding costs should not be affected. This is as long as new reporting under IFRS 16 does not put numbers in a completely new, unexpected light – a "new" tougher reality, compared with the old, perceived, reality. As for debt covenants, it is almost always the case that the companies have clauses in the contracts that cover accounting rules changes.

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Turning leases into on balance sheet debt can give rise to FX risk exposure

IFRS 16 should boost transparency, making comparisons between companies easier

LS: Something that really seems to bother some companies is the currency risk which can be an issue for firms that have operating leases in foreign currencies. These companies will, all of a sudden, have a currency risk to manage. Hence, it is not the debt increase itself that is the issue, but rather the financial risk, specifically FX risk, it brings with it.

KK: Would you say companies generally benefit from IFRS 16?

IK: Yes, I would say so. At first glance, it could seem tough to suddenly have a lot more debt on the balance sheet. But most analysts have already taken the off balance sheet leases into account when making their estimates. Most likely, the comparison between companies with different financing solutions will be much better, and also comparisons between different companies with operating leases.

Greater transparency could increase competition in leasing, lowering leasing costs for corporates

Furthermore, the companies will have better control of their actual costs, and the price transparency could lead to lower market prices for leases. Some companies might need to review certain financial targets and KPIs though, as these ratios could change. But that would be a one-off exercise, and should hence not be a big issue.

LS: I think the biggest challenge will be how to best communicate the change to the market. That will be an issue for the investor relations teams to handle.

IK: I agree, and the closer we get to the implementation date in January 2019, the more discussions there will be on this topic.

Nordea Markets Risk AdvisoryRisk Advisory is a unit within Nordea Markets that supports our clients in identifying, quantifying and managing their financial risk exposures. If the risk a company is facing is not easy to identify, or a combination of several factors (such as foreign exchange risk, fixed income risk or commodities risk), the best solution can be comprehensive risk mapping.

As a discussion partner and provider of quantitative analyses, Risk Advisory offers client-specific advice on understanding the implications of potential changes in financial and operational variables.

Implementing appropriate risk management strategies allows the company to focus more of its attention on business operations, on managing earnings or cash flow variability, hedging the value of assets and liabilities,and protecting key financial figures and ratios.

Risk Advisory supports our clients in identifying key risks, providing insight into the potential trade-offs between different targets and providing a basis for strategic hedging and financing decisions.

Our advisors and analysts cover the areas of risk management, credit analysis, financial modelling, derivative products and accounting, building on experience from various positions with financial institutions, commercial and industrial companies, and consulting.

Ilkka Kesti and Linn Sjöblom are Stockholm-based members of Nordea Markets Risk Advisory, and specialise in risk analysis related to exchange rates and financial reporting/accounting.

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Interview: Leasing not going away after IFRS 16

We interview Dan Phillips, executive director and IFRS specialist at 'big four' auditing group EY on how ready corporates are to implement IFRS 16, how it could affect their reported numbers, and how it might affect the use of leasing going forward. Implementation will take some effort but will ultimately increase transparency in terms of costs and liabilities related to operational leases.

KK: How have the companies that are likely to be most affected by IFRS 16 reacted to its upcoming implementation? Have there been any objections or protests, or is it welcomed?

DP: I would say there is a good understanding of the new regulations among corporates. Discussions about how to report leases have been ongoing for years, so it's nothing new either for the companies or for analysts or investors. I think a key driver for the new reporting rules is that the companies have not been good enough at distinguishing between financial and operating leases. Generally, they have tended to report too many leases as operational. Hence, the IASB (International Accounting Standards Board) finally decided that all leases should be reported in a similar way.

But initially, when the proposal was issued on referral, it was actually the lessors who seemed most concerned. When a new standard is proposed, there is always a referral process to get feedback from stakeholders. Normally, there would be maybe a hundred questions and comments on a new standard, but this time there were over a thousand! Most of them were from lessors who were worried about their businesses, fearing that companies would start buying assets instead of leasing them.

KK: Why has financial reporting historically been different for financial and operational leases?

DP: The current standard governing how to treat leases, IAS 17, is pretty old, from 1979. But the question of how leases should be reported is older than that. It stems from the aftermath of the Great Depression in the US, when companies sought ways to make their balance sheets more capital-light. The new upcoming reporting standard for leasing, IFRS 16, was initiated almost ten years ago, in 2008-09. There is a famous quote from a speech held by the former chairman of the IASB, Sir David Tweedie, from that period (2008). The quote reads: “One of my great ambitions before I die is to fly in an aircraft that is on an airline’s balance sheet”. From how things look now, that should certainly become reality! Since that time, many discussion papers on the new standard have been published, and most people would say that the journey from the first initiatives to the actual implementation has been very long.

A financial lease transfers ownership rights and risks to the lessee, while an operating lease is a rental agreement

When it comes to the difference between financial and operational leases, the financial lease agreement means that the risks and rewards related to ownership of assets leased are transferred to the lessee. Consequently, the lease, when signed, is recognised both as an asset and as a liability on the lessee's balance sheet. In an operating lease, the lessor only transfers the right to use the property to the lessee. Hence, the lease is more to be regarded as a rental agreement and does not affect the balance sheet.

Basically, I think that the reporting difference between financial and operational leases has been reasonable. But since the companies haven't been applying the current standard (IAS 17) correctly, I think that the proposed corrections in IFRS 16 are justified.

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KK: Are you seeing companies implementing IFRS 16 in their financial reporting before it becomes mandatory in 2019?

DP: Normally, Swedish companies don't apply new regulations in advance; they wait as long as they can. However, it could actually be the case that some companies choose to apply IFRS 16 in advance, thanks to IFRS 15, which is to be implemented a year earlier. This is because there is a strong link between the two standards, which could prompt an early implementation of IFRS 16. Furthermore, the companies perceive that the workload required for IFRS 16 implementation is much easier to foresee compared with for IFRS 15. However, early applications are very uncommon in Sweden.

KK: You mention Swedish companies. Are there any differences between Swedish and international companies when it comes to early adoption of new reporting standards?

DP: Well, in general you could say that early adoption is not very common in Central and Southern Europe. But in the UK and in Germany we've seensome cases when new standards have been implemented beforehand.

KK: How will IFRS 16 be implemented? Will there be an immediate 'big bang', or will it be done retroactively? Which do you think is preferable?

Companies facing only minor changes from IFRS 16 will likely just report under it from 2019, while those with greatly changed numbers will likely opt to give a pro-forma prior year's data for comparison

DP: There are two transition methods to choose from. One has a retroactive approach, while the other is 'forward-looking'. In the retroactive approach, a comparative year, ie 2018, is applied, while in the forward-looking approach companies can simply start from 2019 onwards. The latter method is more of a 'big bang' and is easier to implement from a workload perspective. The retroactive approach is better from a communication perspective, though.

I guess that the companies that are affected the most by the new regulations will apply the retroactive approach, while those that will only suffer minor changes in the balance sheet will apply the simpler approach.

KK: Do you think corporates are well prepared to implement IFRS 16? Are they ready to take costs for system upgrades, compliance, etc?

Companies do not yet have a full, clear picture of costs for IFRS 16 implementation

DP: In terms of the cost impact from IT system changes, increased workforce and education, I would say companies aren't there yet. They don't have an overall picture of the cost impact.

I've actually also had quite a lot of questions on how to calculate the impact of the new standard on the companies' balance sheets. I usually answer that it is simple, since everything's already in the notes. Theoretically, all you need to do is to calculate the present value of your future commitments that are related to your operational leases. But when I point this out, companies usually say that the quality of the figures in the notes is too poor to use them to calculate the lease impact on the balance sheet. Hence, it's apparently only when the figures are reported in the balance sheet, income statement and/or cash flow that companies – and outside observers – start to care about them…

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KK: Would you say that the companies generally have a good sense of how much IFRS 16 could affect their reported numbers – especially the balance sheet?

Companies are not fully aware of the impact from IFRS 16 on reported numbers – uncertain impact from rental agreements for premises

DP: No, I don't think so. This is particularly due to the fact that they don't know what kind of future commitments they will have related to their premises. Rents are the largest expense for the majority of the affected companies.

KK: What do you see as the greatest risks related to IFRS 16 implementation for the most affected companies? Flawed communication with stakeholders? Lack of preparation? Higher borrowing costs? Major implementation costs? Other?

Communication of how IFRS 16 will impact reported numbers will be key – not least to creditors

DP: Communication will be very important, especially for companies whose figures will be affected a lot. The equity ratio, for instance, will be greatly affected due to the increased balance sheet, and that has to be communicated – not least to creditors! It might also be the case that some debt covenants will need to be reviewed and corrected.

It is difficult to foresee how creditors and investors will evaluate the company after the IFRS 16 implementation. It may be the case that they simply disregard the debt and assets that have arisen from IFRS 16 in their ratings and valuations going forward.

KK: But it seems to be rather the opposite, ie both the rating agencies and investors currently take off balance sheet leases into account when they make their ratings and valuations? At least for the major companies?

IFRS 16 will lead to greater transparency on actual costs and liabilities from leases

DP: Well, that is quite scary, since the companies themselves say that the quality of data for their current lease commitments, stated in the notes to the balance sheet in their annual report, is not good enough. But this is something good that will come out of IFRS 16: the quality of the reported operational lease data will improve, and both the companies and analysts will get a better picture of the companies' actual costs.

KK: Do you see corporate attitudes to leasing changing going forward? Will operational assets mostly be owned rather than leased in the future?

DP: It could be that some assets that currently are leased will be purchased after the IFRS 16 implementation. I'm thinking particularly of leased small-ticket assets such as cars, copiers and coffee machines. They might, incorrectly, have been reported as operational leases, and in such cases the companies are likely to purchase the assets instead of leasing them.

Most common operational leases are rental contracts for premises

But the major operational lease assets are typically premises, and these will continue to be treated as operational leases going forward.

IFRS 16 is unlikely to greatly impact demand for leasing

As I mentioned earlier, there was initially major concern among lessors that the leasing market would change radically as a result of the new standard. But quite soon everybody realised that the IFRS 16 implementation wouldn't be much of a game changer when it comes to demand for leases.

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KK: What is the main reason for companies continuing to use operational leases?

Demand for leasing is typically driven by funding constraints, appetite for residual value risk, or convenience (using a third party for fleet management)

DP: I think that it's a combination of several factors. Most companies that use operational leases today will continue to do so; they simply don't have any choice. For some, it could be a cash flow issue, ie they don't have enough liquidity or the possibility to borrow money to acquire the assets. Some of the companies don't want to be exposed to the depreciation or residual risk associated with ownership. I also believe that it has to do with simplicity. Take companies using car leasing as an example. These companies probably don't want to manage a car fleet themselves, and hence it's more appropriate to let a third party run that business for them. And, until now, the reporting rules for operational leases have been attractive for some companies; putting the leases off balance sheet has made them look less asset-intensive.

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IFRS 16: Leases turn to debt – who might be hit?

We analyse a sample of 206 listed Nordic companies to see how IFRS 16, which will be implemented in 18 months, will impact their reported numbers. According to our analysis, EBITDA will increase by 9% while debt will increase by 17%, raising the average net debt/EBITDA from 0.8x to 1.2x. The biggest impact will be felt by airlines, retailers and hotel operators, with Finnair, SAS and Rezidor all seeing their leverage rising from near zero to 2-3x EBITDA. In addition, there are many companies seeing a big jump in reported leverage, but still only to moderate levels. These include Kesko, H&M, Axfood, Nokia and ICA.

We simulate the impact of IFRS 16 on a sample of 206 Nordic listed companies

Data and methodologyTo simulate how implementation of IFRS 16 into financial reporting could affect financial statements of companies, we analyse how some selected key financial ratios change if we adjust them to reflect the new regulations.

Our data is based on reported 2016 numbers and not on forecasts

Our data set is a sample of 206 listed Nordic corporates, excluding banks, insurance and real estate companies, with a market cap of over EUR 500m (as per 20 April 2017). All data is sourced from Thomson Reuters and is based on reported 2016 numbers (or 2015/16 for corporates with split fiscal years). As one of our aims is to see which industries could see the greatest impact on financial key ratios from the new lease reporting regulation, we divide our sample into nine sectors according to the Global Industry Classification Standard (GICS):

Consumer DiscretionaryConsumer StaplesEnergyHealthcareIndustrialsInformation TechnologyMaterialsTelecommunication ServicesUtilities

The table below shows the number of companies from our sample in each sector and each Nordic country.

Sample

Sector/Country Sweden Norway Denmark Finland Sum

Healthcare 12 0 10 2 24Energy 0 10 0 1 11Industrials 36 8 9 16 69Consumer Discretionary 23 4 3 6 36Information Technology 7 3 2 4 16Telecommunication Services 4 1 1 2 8Consumer Staples 7 6 4 2 19Utilities 0 2 1 1 4Materials 6 3 2 8 19SUM 95 37 32 42 206

Source: Thomson Reuters

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Sample distributions based on market cap

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Rm


Sample distribution based on market cap

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Sweden Denmark Finland Norway

EU

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We estimate changes in reported numbers for lessees, not for lessors

The key figures we analyse are:

Change in EBITDAChange in debtChange in equity ratioChange in net debt/EBITDA.

As all the required information is not available, our estimates are partly based on assumptions

We show numbers as median changes. Due to limitations in the availability of relevant information, we estimate quantitative effects of the changes to lessee accounting using various assumptions.

We estimate the change in EBITDA by adding operational lease payments for the upcoming year to the current EBITDA, as operational leasing costs, eg rent, will under IFRS 16 be replaced by depreciation and interest.We estimate the change in debt, which will increase as operating leases are shifted into the balance sheet, by adding the present value of minimum lease commitments, including costs for disposal, to the current interest-bearing debt.To discount the future minimum lease commitments, we follow the methodology of rating institute Standard & Poor's, using an interest rate of 7%.For the changes in equity ratio and net debt/EBITDA, we calculate the median ratio before and after the leasing adjustments, and then take the difference between these two values.

We exclude the real estate sector from our study

This study focuses only on the impact of operational leasing costs, as we find that most corporates will experience the largest impacts on the cost side. An exception to this is the real estate sector, and we hence exclude this sector from our study.

EBITDA will increase 9% for the total sample of companies

Summary of key findingsEBITDA will increase as operating leasing costs, such as rent, are removed from EBITDA and are instead recognised in the P&L under depreciation and amortisation as depreciation and under finance costs as interest. In general, we see that for industry sectors that are major users of off balance sheet leases, such as airlines and retailers, we expect the increase in EBITDA margins to be significant. The median increase in absolute EBITDA in our total sample of listed companies is 9%.

Debt will rise more: 17% for the full sample

Debt will increase, as lessees will recognise the present value of lease payments over the lease term as a lease liability on the balance sheet at inception. Companies with large and long-term lease commitments, such as airlines, will see the largest balance sheet expansion. Sectors that in general have little debt, such as the healthcare sector and the IT sector, will see the largest increase in percentage terms. But absolute changes in debt

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levels will be minor, and their leverage will remain insignificant. The median increase in debt in our sample is 17%.

So, for the total sample of companies, debt will rise more than EBITDA from implementation of IFRS 16.

The median equity ratio will decline from 44% to 41%

Looking at key ratios, the equity ratio will decrease as the balance sheet grows by the present value of future operating lease commitments (equity is assumed to be constant). The median equity ratio will decrease by 0.03 pp, from 44% to 41%.

The median net debt/EBITDA will deteriorate from 0.75x to 1.17x

Net debt/EBITDA will increase, as the present value of future lease commitments is likely to be larger than the adjustment of the current year's leasing costs on EBITDA. The median net debt/EBITDA will increase by 0.42 units, from 0.75x to 1.17x.

The sectors seeing leverage rise most will be Consumer Discretionary (retailers and hotels), Industrials (airlines) and Consumer Staples (food retailers)

The sector we expect to experience the greatest overall impact on financial key ratios from the new leasing regulations is Consumer Discretionary. This is especially true for companies in this sector whose leased retail space is a core part of their business model, such as prime venue retailers and hotels. Industrials with major contracts related to, for example, rental of manufacturing plants and equipment, fleets or distribution centres, are also set to experience a significant impact on their financial statements due to the new regulations. Airlines, also included in the Industrials sector, stand out owing to their large aircraft fleets which are typically run under operating leasing agreements. Also, companies in the Consumer Staples sector, such as food retailers, are expected to be significantly impacted.

EBITDA change, median

Sector

Consumer Discretionary 14%

Information Technology 13%

Industrials 11%

Energy 10%

Telecommunication Services 10%

Healthcare 7%

Consumer Staples 7%

Utilities 4%

Materials 3%Total 9%

Change


EBITDA change, top ten companies

Company

AcadeMedia 388%

Caverion 327%

Rezidor 226%

Stockmann 167%

Scandic 163%

SAS 151%

Norwegian 127%

Outotec 99%

Kesko 97%

Finnair 97%

Industrials

Industrials

Industrials

Industrials

Industrials

Consumer Discretionary

Change EBITDASector


Industrials




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The biggest jumps in EBITDA are for companies with big lease payments, like hotel operators, retailers and IT companies

As the table above shows, the largest median changes in EBITDA are seen in the Consumer Discretionary (14%), Information Technology (13%) and Industrials (11%) sectors. Within Consumer Discretionary, the largest changes are seen in hotel chains, such as Scandic and Rezidor, and retailer chains with valuable leased retail space such as H&M, Stockmann and Clas Ohlson. IT companies comprise a wide range of IT consultants, as well as distributors and hardware and software producers. Operating leases here are hence likely to be related to leased premises and equipment.

Among the top ten percentage changes in EBITDA, three companies are airlines (SAS, Norwegian and Finnair). Companies working within construction and building maintenance (eg YIT and Caverion) and those operating within transport and logistics (DSV) can also be found high up on the list.

The median increase in EBITDA in our sample is 9%.

Debt change, median

Sector

Consumer Discretionary 32%

Industrials 20%

Healthcare 20%

Information Technology 18%

Telecommunication Services 16%

Energy 16%

Consumer Staples 11%

Utilities 7%

Materials 7%Total 17%

Change


Debt change, top ten companies

Company Sector

B&B Tools Industrials 736%

SECTRA 609%

Kesko 405%

Addtech 370%

SAS 364%

Scandic 250%

AcadeMedia 237%

Bavarian Nordic 199%

Bilia 176%

Bang & Olufsen 176%



Healthcare



Industrials

% chg total debt

Healthcare

Consumer Staples

Industrials


EBITDA boost is accompanied by a rise in debt

Turning to the balance sheet, we see that the Consumer Discretionary sector is expected to experience the greatest changes here too. In particular, companies with low leverage, such as H&M and Clas Ohlson (not included in this calculation, as current debt is very low), will experience a significant increase in debt in percentage terms. Many of the IT companies do not report any interest-bearing debt on their balance sheets (such as SimCorp A/S, NetEnt AB and F-secure). Therefore, the numbers are not quite representative for the IT sector here. The Healthcare sector, which is in third place, includes pharmaceutical manufacturers (Novo Nordisk), producers of healthcare equipment (Elekta), and healthcare service providers (Attendo and Capio). In general, both drug manufacturers and healthcare services in general enjoy rather low degrees of leverage and hence the changes in percentage terms become notable.

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IT and Healthcare sectors will see higher debt, but from low levels

For Industrials, the picture is largely consistent with the changes in EBITDA: airlines, as well as construction and transportation companies top the list. Industrials in general have higher degrees of leverage to start with and hence it is perhaps more relevant to focus on the increase in debt in this sector rather than the percentage change, as in the sectors with lower leverage, like IT and Healthcare.

Recognising operational leasing commitments on the balance sheet as debt under IFRS 16 is, based on our study, estimated to drive a median increase in net debt of 17%.

Equity ratio change, median

Sector Before adj After adj Change

Consumer Discretionary 0.48 0.40 -0.08

Industrials 0.37 0.35 -0.03

Telecommunication Services 0.49 0.46 -0.02

Healthcare 0.43 0.41 -0.02

Energy 0.50 0.49 -0.02

Information Technology 0.45 0.44 -0.02

Consumer Staples 0.37 0.35 -0.01

Materials 0.51 0.50 -0.01

Utilities 0.37 0.37 -0.01Median 0.44 0.41 -0.03


Equity ratio change, top 20 companies

Company Sector Before adj After adj Change

Rezidor Consumer Discretionary 0.53 0.22 -0.31H & M Consumer Discretionary 0.62 0.33 -0.29Scandic Consumer Discretionary 0.50 0.30 -0.20AcadeMedia Consumer Discretionary 0.42 0.25 -0.16Clas Ohlson Consumer Discretionary 0.54 0.40 -0.14NetEnt Information Technology 0.70 0.59 -0.11Kesko Consumer Staples 0.46 0.35 -0.11Axfood Consumer Staples 0.39 0.28 -0.11Attendo Healthcare 0.49 0.37 -0.11XXL Consumer Discretionary 0.54 0.43 -0.11Finnair Industrials 0.34 0.24 -0.10Tokmanni Consumer Discretionary 0.36 0.27 -0.09Fenix Outdoor Consumer Discretionary 0.58 0.50 -0.08Europris Consumer Discretionary 0.39 0.31 -0.08Simcorp Information Technology 0.49 0.42 -0.07B&B Tools Industrials 0.51 0.44 -0.07Mekonomen Consumer Discretionary 0.42 0.35 -0.07Stockmann Consumer Discretionary 0.48 0.41 -0.07SAS Industrials 0.17 0.11 -0.07Capio Healthcare 0.43 0.37 -0.07


The Consumer Discretionary (retailers and hotel operators) sector will be worst hit in terms of falling equity ratios

The equity ratio is defined as shareholders' equity divided by total assets. As future minimum operating leasing commitments will be discounted and added to companies' stocks of debt, balance sheets will grow and equity ratios will decrease. Once again, we see that Consumer Discretionary tops the list with a decrease in the equity ratio of 8 pp, more than twice the decline for Industrials, Healthcare and Consumer Staples.

If we rank the changes in equity ratios across the whole sample, companies in the Consumer Discretionary sector, such as H&M, Clas Ohlson, Rezidor and Scandic top the list. It is also interesting to see that Consumer Staples companies such as Kesko and Axfood are among the top ten companies regarding estimated changes in equity ratios.

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Net debt/EBITDA change, median

Sector Before adj After adj Change

Information Technology -0.8 -0.4 0.4

Consumer Discretionary 0.8 1.1 0.4

Consumer Staples 0.9 1.2 0.3

Industrials 1.0 1.3 0.2

Healthcare 0.2 0.4 0.2

Energy 1.3 1.5 0.2

Utilities -0.1 -0.1 0.1

Materials 1.1 1.1 0.0

Telecommunication Services 2.2 2.2 0.0Median 0.8 1.2 0.4


Net debt/EBITDA change, top 20

Company Sector Before adj After adj Change

Finnair Industrials -0.7 3.0 3.7Bavarian Nordic Healthcare -18.6 -15.2 3.5SAS Industrials -0.9 2.3 3.1Rezidor Consumer Discretionary 0.3 2.9 2.6Bang & Olufsen Consumer Discretionary -3.8 -1.3 2.5XXL Consumer Discretionary 1.6 3.6 2.0Kesko Consumer Staples -0.1 1.7 1.8Outotec Industrials -0.5 1.2 1.6H & M Consumer Discretionary -0.2 1.2 1.4Clas Ohlson Consumer Discretionary -0.6 0.7 1.3Axfood Consumer Staples -0.6 0.7 1.3Scandic Consumer Discretionary 1.9 3.2 1.3Nokia Information Technology -4.5 -3.2 1.3B&B Tools Industrials 0.1 1.2 1.1Fiskars Consumer Discretionary -2.3 -1.2 1.1ICA Gruppen Consumer Staples 0.1 1.2 1.0NKT Holding Industrials -1.6 -0.6 1.0Aker Solutions Energy -0.3 0.7 1.0Sweco Industrials 0.4 1.2 0.9Opera Software Information Technology -3.0 -2.1 0.9


Net debt/EBITDA will deteriorate the most for airlines, retailers, hotel operators and food retailers

Many of the companies in the IT sector have negative net debt (net cash), which after the change will become less negative. Hence, net debt/EBITDA is not that relevant for this sector. Consumer Discretionary is expected to experience the second-greatest change also for net debt/EBITDA: the median net debt/EBITDA is expected to increase from 0.8x to 1.1x, an increase of 0.4 points. The third-largest increase is expected to be seen for Consumer Staples, where the median net debt/EBITDA is estimated to increase by 0.3 points to 1.2x. The vast majority of the change in this sector is driven by the food retailers ICA, Axfood and Kesko, whereas the changes for the rest of the companies in this sector are more muted. According to our study, the fourth-biggest median change in net debt/EBITDA is found in Industrials.

Companies worst hit on net debt/EBITDA include Finnair, SAS, Rezidor, Bang & Olufsen, XXL, Outotec, H&M, Clas Ohlson, Axfood, Scandic and Nokia

Looking across all the companies in our sample, the greatest changes in net debt/EBITDA can be seen in the airlines and transportation companies such as Finnair and SAS. Some capital goods companies, such as Alimak Hek and B&B Tools, can also be found among the companies that are expected to experience big increases in net debt/EBITDA in our sample. Consumer Discretionary corporates, such as XXL, H&M and Clas Ohlson, are also high up on the list of companies that are likely to see the biggest increases in net debt/EBITDA.

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Interview: IFRS 16 in the eyes of the beholder

We interview Göran Jansson, CFO and Jan Torberger, Group Treasurer, of listed airline SAS on how IFRS 16 could affect reported numbers and the perception of the group, which according to our screening, will be one of the most affected Nordic listed companies in terms of increased reported leverage. Big institutional investors should be well informed and prepared, but SAS may need to help educate smaller investors and suppliers on how the higher reported leverage does not reflect any change in the business. One real challenge will be managing the USD exposures in long leases that will now be included on the balance sheet.

Accounting rules have not affected SAS' use of operating leases – they are already approximated as debt by investors and rating agencies

JT: For which purposes do you use leasing, and why have you decided to finance your assets partly through leasing?

JTo: For us, using leasing is not related to any considerations regarding funding restraints, funding mix or balance sheet optimisation, but always about seeking the most attractively priced funding for our investments; and this has often turned out to be leasing.

GJ: Historically, our funding decisions have also been influenced by how willing we have been to consider taking residual value risk on older aircraft types, where leasing has been a way to limit such risks.

A more general observation is that the equity, and hence the total weighted cost of capital, in sale-and-lease-back structures is typically considerably less expensive than the cost of equity of most airline companies, including SAS. All airlines who can aim to use this advantage, including challengers like Ryanair.

JTo: It is often possible to use leasing for aircraft where we are comfortable taking residual value risk, through adding a buyback option to the lease.

Again, funding costs are the drivers for our decision between leasing or owning, along with one other factor: we have a fleet policy, which gives general rather than highly specific guidelines, but says that we should have a mix of owned and leased aircraft in our fleet. The policy calls for a mix of funding and a mix of funding duration, but not with targeted shares of number of aircraft or aircraft book value.

JT: Have accounting rules mattered in the decision process when choosing between financial and operating leases?

GJ: No, I think outside observers have been familiar with leases and what they mean financially for airlines for many years. As far as I am aware, virtually all airlines report their leasing commitments, approximating 7-8x of lease costs as a liability, which is currently not included on balance sheets. Rating institutes, take the same approach. So from an accounting and financial reporting point of view, we consider leasing like any other form of debt.

JTo: I think the 8x cost approximation of leasing debt used by some rating institutes is in the typical case a conservative one, requiring a constant high level of lease renewals. To me, a 5-6x cost approximation of lease debt would likely be closer to reality.

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IFRS 16 is expected to reduce SAS's equity ratio, which is only a change in appearance - but appearances can matter

SAS carefully chooses between leasing and buying for all major investments

Leasing has been attractive in recent years, from USD lenders seeking yield and very low credit losses in aircraft financing

Balance sheet 'swelling' from IFRS 16 should be manageable, but managing USD exposures from long leases will be a challenge

GJ: Having said this, we are very aware that our reported balance sheet will change quite dramatically after the implementation of IFRS 16. Reported debt will rise, and our equity ratio will fall. Banks, rating institutes and institutional investors might not be surprised, but other parties like suppliers, could raise a few eyebrows. In the eyes of the general public, it could appear more dramatic than it actually is. Certainly, SAS operates with quite a limited equity base but that fact, or how limited we are, does not change by implementing IFRS 16. It will just look different from the outside, but that of course does still matter.

JT: Has secured debt been considered as an alternative for financing your assets?

JTo: Certainly, it is an alternative we consider for all major investments we make. We have models for comparing funding alternatives, taking into account all their merits, in order to choose the most favourable and cheapest alternative.

In the past two or three years, leases have been very attractive. There has been ample supply of USD funding, as investors have been hungry for yield in an ultra-low interest rate environment, and lenders have noted that credit losses on aircraft financing are very low.

GJ: And there has been further support from, for example, the right to make direct depreciation of leasing structures for Japanese lenders, which gives tax advantages and hence further reduces the cost of capital in leasing solutions.

JT: Will the new accounting rules make leasing less attractive for you, therefore impacting your use of leasing?

JTo: I don't think so. We consider the funding cost when making our investments, which should not be affected for leases. From a balance sheet size point of view, an aircraft on a ten-year lease, representing USD 30m on our balance sheet, would show up as USD 45m if owned. The swelling of the balance sheet would not be the key issue. I think the main challenge would be managing FX exposures. Aircraft are USD assets. Unlike regular, fixed, contracted lease payments, USD-funded aircrafts would drive a need to manage FX risks related to the long USD debt.

GJ: I think the new reported numbers might affect the perception of us and our balance sheet, at least among retail investors. Will this affect how we make investment and funding decisions? Perhaps not directly, but it might fuel a general discussion regarding our equity ratio and capital structure. As we see it, IFRS 16 will not change the level of financial risk in SAS, but some might think that it does.

JTo: There could, however, be an increase in volatility in our P&L, when lease payments are subject to FX exposure. This has not been an issue when leases have been off balance sheet.

JT: How will the new accounting rules for leasing affect SAS’s financial reports?

GJ: I would expect us to add some additional footnotes in our annual report, specifying in more detail the operating leases included on our balance sheet. The "'R' in EBITDAR, which represents rental costs, will disappear, and be replaced by depreciation and interest costs in our P&L.

JT: Will the changes make it easier for external parties to observe SAS’s “true” or “underlying” financial performance?

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IFRS 16 should cause reported numbers to better reflect the "true financial performance of SAS

JTo: Yes, I think so. Fully including all our contractual lease commitments on our balance sheet and P&L gives a more accurate description of our business. It might benefit us that actual lease liabilities will be lower than currently approximated by the rating institutes. But that of course requires that the rating institutes use reported numbers under IFRS 16, rather than continuing to use their own approximations.

JT: Did you see a need for updated leasing accounting rules, from the perspective of the airline industry?

JTo: We had not reflected on this as any pressing need. I was originally very sceptical that anything good would come out of IFRS 16, but I have changed my mind, and I welcome it.

Changed reporting of leases has been due for a long time

GJ: Accounting treatment of leases has been discussed for decades, and now changes are coming. There is no real shock or surprise.

JT: Which do you think are the major pros and cons of IFRS 16 for SAS and the airline industry?

JTo: Again, a key challenge will be hedging of leasing-related FX risks after leases move onto balance sheets. This will require bigger limits with banks, and perhaps more counterparty banks. 10-year limits for FX hedging will hardly be easy to obtain, so we might need to change our liquidity from SEK to USD, to minimise the need for new credit lines. On the negative side you would find workload and costs. We need to invest both in staff and in systems, to be able to report according to the new rules.

JT: Is SAS planning to apply IFRS 16 earlier than when it becomes mandatory in 2019?

GJ: No. Remember we have a split fiscal year as well, so we may be even harder pushed than many to try and be early. But we see no self-serving purpose in being early.

JT: Do you see a need to revise any financial targets or treasury policy metrics from IFRS 16 having an impact on leverage or other key ratios in your financial reporting?

SAS's financial targets will be reviewed to ensure consistency with IFRS 16

No major changes to treasury policy are likely to be required

Institutional investors are up to speed on IFRS 16, while retail investors may need to be educated

GJ: We will review our financial targets, to ensure they remain relevant and consistent with how IFRS 16 will affect our financial reporting.

JTo: I don't think we will need any significant revisions to our treasury policy. If anything, we may need to consider widening the ranges for how much of exposures we hedge, to allow for potential lack of really long-term credit lines with banks.

JT: Would you expect equity or debt investors to react to any changes in key ratios related to IFRS 16? Generally for airlines, or for SAS?

JTo: I would expect that institutional debt and equity investors are already there, being used to making adjustments for off balance sheet leases to reported financial leverage. They should not be surprised or view the actual business any differently.

GJ: There might be reactions from smaller investors, like family offices and retail investors. Some may have been taught in the past to focus on equity ratio when evaluating financial risk, and see a sudden big change for the worse when IFRS 16 is applied. We may need to educate them on what is happening and why. I think this might be particularly relevant for some holders of SAS preference shares.

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Nordea Markets is the name of the Markets departments of Nordea Bank AB (publ) and its branches Nordea Danmark, filial af Nordea Bank AB (publ),Sverige, Nordea Bank AB (publ), filial i Finland and Nordea Bank AB (publ), filial i Norge. The information provided herein is intended for background information only and for the sole use of the intended recipient. The views and other information provided herein are the current views of Nordea Markets as of the date of this document and are subject to change without notice. This document is not investment research. This notice is not an exhaustive description of the described product or the risks related to it, and it should not be relied on as such, nor is it a substitute for the judgment of the recipient. The information provided herein is not intended to constitute and does not constitute investment advice nor is the information intended as an offer or solicitation for the purchase or sale of any financial instrument. The information contained herein has no regard to the specific investment objectives, the financial situation or particular needs of any particular recipient. Relevant and specific professional advice should always be obtained before making any investment or credit decision. It is important to note that past performance is not indicative of future results. Nordea Markets is not and does not purport to be an adviser as to legal, taxation, accounting or regulatory matters in any jurisdiction. This document may not be reproduced, distributed or published for any purpose without the prior written consent from Nordea Markets. Nordea Bank AB (publ), Company registration number/VAT number 516406-0120/SE663000019501. The board is domiciled in Stockholm, Sweden.

Completion date: 16 June 2017, 11:07 CET

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