BEGINNING January 1, 2009, a new accounting interpretation will be in effect, changing the scenario of how real-estate companies worldwide recognize their revenues on projects.  From the current practice of booking the income from real-estate sales using the percentage of completion method, the International Financial Reporting Interpretations Committee (Ifric) has ruled that contracts to sell house-and-lot and condominium units will be booked as sales and income when the project is fully completed and absolute control of the unit and the significant risk and reward of ownership have been transferred to the buyer.

Property analysts say this forthcoming change may impact on the ability of a real-estate firm to maintain its dividend policy to shareholders, saying the new policy will likely result in a reduction in retained earnings, and reduced retained earnings may trigger a decline in dividends.

“Having said that, it is prudent for the companies to review their business plans in light of this change,” says a senior analyst from a foreign securities firm in an interview.

Ayala Land Inc. (ALI), the country’s largest property developer, says the shift in revenue recognition will not affect its operations or cash flows, but will have an impact on the reported profit and loss (P&L) statements or the reports that summarize the revenues, costs and expenses incurred during a specific period.

Company spokesman Alfonso Reyes, in an interview, says compared with the existing practice, the new policy, otherwise known as Ifric 15, mandates that revenues from the sale of residential units may only be recognized in the books upon total project completion, instead of recognizing revenues throughout the project’s progress.

“As a result, revenues for any given period based on percentage of completion will no longer be reported. This would result in earnings being ‘lumpy,’ wherein period-to-period revenue recognition would depend on projects being completed during that period,” explains Reyes.

He adds that if the implementation of the new guideline will be retroactive, then a restatement of the previous years’ financial statements will be required and may reflect lower revenues, net income and retained earnings numbers. The restatement would raise issues on the propriety of previous dividend declarations based on retained earnings that will subsequently be adjusted downward.

Reyes emphasizes, though, that ALI’s operations should not be affected since disbursements and receipt of payments will still follow the actual construction schedule.

“Since the operations and the cash flows, which represent the true economics of the business, will not change, then we do not anticipate any change in how external stakeholders or the capital markets will view or value our businesses,” he says.

ALI operates with a balanced portfolio of projects, including residential vertical developments, subdivisions, business-process outsourcing (BPO) office spaces and shopping malls. It is a unit of Ayala Corp.

While the homebuyers are insulated from the new accounting policy, Reyes says the impact on the reported numbers for high-rise developments, which typically undergo longer construction periods than horizontal projects, will be more pronounced compared with horizontal developments.

“A high-rise condominium can take anywhere from three to five years to construct, depending on the height and complexity of the structure, whereas horizontal developments such as subdivision lots can usually be completed in a year. Multiply this by having multiple projects and it is clear that the potential for having lean and lumpy years is magnified for developers who focus mainly on high-rise projects. Again, this is purely from an accounting perspective, and developers who have sufficient cash to complete their projects on time should not be affected,” he explains.

Asked if ALI will have a change in strategy to cope with the change, he answers, “Our strategic direction will continue to be guided by the macroeconomic environment, market conditions and our own internal capabilities and sources of competitive advantage. We will launch projects when we believe that the time is right, the market is ready and if we are convinced that the project will create value for our shareholders; and we will deliver these only when the product is already completed to our high standards of quality.”

NREA and SHDA react

Both the National Real Estate Association Inc. (NREA) and the Subdivision and Housing Developers Association (SHDA) say the shift to Ifric 15 will be tedious for real-estate companies.

According to SHDA governor Ben Uy, the adverse impact of the new policy will be the gross deferral of revenues from the sales transaction.

“Financial statements will be showing continuing losses during the construction of the project despite the successful marketing and closing of sales contract during the period of construction. There will be no proper matching of cost against revenue because while the overhead expenses are incurred during the project development and closing of sales, recognition of revenues will only come in at the final stage of project completion and turnover of units to the buyers,” he notes.

To thwart such impact, NREA president Alejandro Mañalac sees the influx of projects which can be turned over within a one-year period.

“This would mean more mortgage revenue bonds, townhouses, house-and-lot packages or lots-only developments,” he says.

And the buyers, in a way, are winners under the new setup, Mañalac adds.

“With this new system, they will be sure that the developers will really want to deliver their projects on time, if not faster, otherwise, the developers will not realize their income.”

But there is also a downside, says Uy.

“The new accounting policy will affect homebuyers because the cost of project construction, whether high-rise or horizontal development, will shoot up. Developers who are determined to book the sale or income in a particular accounting period will be forced to complete the development using borrowed funds and spending more money in project maintenance. Cost of funds and maintenance expenses are normally imputed into the selling prices of lots or house and lots. Thus, homebuyers will have to pay more in terms of down payment and monthly amortization,” he explains.

Within the next five years, Uy expects the property sector to suffer some drawbacks because of the poor financial picture that the players can experience.

“With many investors withdrawing from their equity investments, market prices of property issues in the stock exchange will drop. As to whether it will eventually be advantageous to the property sector, our accounting experts believe that when the real-estate companies have complied with the new accounting standards, their financial statements, especially those published abroad, will become comparable with those issued by more developed countries. The resulting financial statements will gain more credibility and acceptance from foreign investors and creditors,” he notes.

Eton and Federal Land

Eton Properties Philippines Inc., the real-estate unit of tycoon Lucio Tan, says Ifric 15 will favor the strong and reliable real-estate companies that have the capacity, resources and discipline to deliver its projects as scheduled and as committed to its buyers.

“With the eventual consolidation of real-estate developers into stronger, more reliable companies, Philippine real-estate offerings can be seen and perceived as a more stable and safe investment possibly comparable to the ‘safe’ and ‘risk-averse’ classification for banking and investment products,” explains its president Danilo Ignacio in an interview.

However, he admits the new environment may lead to a bias of developers to offer fewer high-rise condominiums and more horizontal developments and low-rise buildings.  As such, Manila’s central business district (CBD) areas, where high land value dictates high-rise developments, may see fewer new projects, while fringe areas with lower land values will experience heightened development activity. This may lead to further expansion of the urban sprawl outside of the Makati and Ortigas CBDs.

“The new system should motivate companies to deliver and complete their projects on time. The challenge to companies is how to operate efficiently to deliver projects on schedule. We at Eton have always maintained efficient operations from the start; [this] is the main reason why our commitment to our buyers on delivery dates has always been maintained with all projects on schedule,” Ignacio imparts.

For his part, Federal Land senior vice president Jose Mari Banzon says the imminent shift to the new policy may lengthen the period from launch of a project to completion of construction. 

“The new accounting standards that require developers to recognize revenue only after full completion instead of a percentage of completion will merely defer the reporting of revenue and income of developers. They may report lower bottom lines in the short term because of the transition to the new accounting standards, but they will be able to catch up in the succeeding years,” he says.

While Federal Land, a member of the Metrobank Group, has a pipeline that regularly churns out projects every year, its volume of projects has increased in the last couple of years in line with the property boom.

“With the new accounting standards, we may have to defer reporting the revenues and income from our more recent projects. To smooth out our income, we are developing other revenue sources such as lease income,” adds Banzon.

Meanwhile, the Gotianun-led Filinvest Land Inc., whose huge land bank is located in Alabang, Muntinlupa, says it will not be affected by the change in accounting policy.

“The company books the sale when it has collected the down payment of 20 percent. It usually takes us six to nine months to construct the unit/house,” says investor-relations head Annabelle Arceo.  

The Color Of Money

BEGINNING January 1, 2009, a new accounting interpretation will be in effect, changing the scenario of how real-estate companies worldwide recognize their revenues on projects.  From the current practice of booking the income from real-estate sales using the percentage of completion method, the International Financial Reporting Interpretations Committee (Ifric) has ruled that contracts to sell house-and-lot and condominium units will be booked as sales and income when the project is fully completed and absolute control of the unit and the significant risk and reward of ownership have been transferred to the buyer.