Capital Structure Effects Associated with the New Lease Accounting Standard.

This article investigates the impact of Accounting Standard Codification (ASC) 842, which mandated firms to capitalize operating leases on their financial statements starting in 2019, on firms' reliance on existing debt (debt excluding the newly capitalized lease liabilities). The study finds that firms affected by ASC 842 reduced their existing debt by approximately 7%–10% relative to unaffected firms, with larger reductions observed in firms more heavily impacted by the standard. These reductions are concentrated among firms whose debt contracts are less likely to be based on fixed accounting standards (i.e., "floating GAAP"), those with higher probabilities of loan covenant violations, and firms whose capital structures are more affected relative to industry peers, suggesting that contracting costs significantly influence firms' financing decisions following ASC 842 adoption. The findings also indicate that pre-emptive lease adjustments prior to adoption only partially mitigated the leverage effects, and that affected firms' reductions in existing debt may have led to decreases in capital expenditures. This research highlights the contracting cost implications of recognizing previously disclosed lease obligations and offers insights relevant to accounting standard setters evaluating the costs and benefits of recognition requirements.