First, though, a primer on the differences in the rules for revenue recognition under IFRS as compared to GAAP, which affect the carrying value of the underlying investments in real estate and real estate related assets.
Under GAAP, real estate is carried at historical cost. Under IFRS, by contrast, it may be recorded at fair value. By having the differing standards, it makes it more difficult to objectively compare operating results of two firms. For example, depending on which valuation method used -- discounted cash flow analysis vs. comparable sales analysis -- the value of a property can vary widely.
In practical terms, it can result in a significant competitive disadvantage for US companies. Another example why: under IFRS, foreign firms have more leeway in structuring lease agreements in order to achieve revenue recognition objectives.
GlobeSt.com: Where will US real estate firms feel this change the worst?
Eisenberg: It will impact the earning statements and share price.
GlobeSt.com: Can you explain further? Why will US firms be at a disadvantage compared to overseas competitors using the international standards?
Eisenberg: Publicly held companies report using historical cost. The companies overseas that elect to use fair value report are able to adjust valuations up or down each year. That is where the competitive disadvantage is for US companies – because overseas firms are able to use fair value reporting, investors can look at foreign companies portfolios and get an accurate net asset value (NAV) right away. You have to go through a few steps to come up with something comparable for US companies' real estate portfolios. And even then that number may not reflect the full value – investments under development, for instance, may be worth more than the cash flow implies. Knowledgeable real estate people can ferret out the necessary information, but it is much easier to if assets have been accounted for using fair value.
GlobeSt.com: And that is why investment may move to foreign companies?
Eisenberg: The transparency makes it easier to evaluate them.
GlobeSt.com: This won't affect the entire real estate community?
Eisenberg: No. Many privately held companies already report on fair value. I think, though, the rule will have enough of an impact that in six months we will see more pressure for US companies to report on fair value consistent with foreign competitors.
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Erika Morphy
Erika Morphy has been writing about commercial real estate at GlobeSt.com for more than ten years, covering the capital markets, the Mid-Atlantic region and national topics. She's a nerd so favorite examples of the former include accounting standards, Basel III and what Congress is brewing.
