AFM391 Chapter Notes - Chapter 18: Finance Lease, Operating Lease, Credit Risk
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# Warren Co. recorded a right-of-use asset of $800,000 in a10-year Type A lease. The interest rate charged by the lessor was8%. Under the new ASU, the balance in the right-of-use asset aftertwo years will be:
#Refer to the following lease amortization schedule. The 10payments are made annually starting with the inception of thelease. Title does not transfer to the lessee and there is nobargain purchase option or guaranteed residual value. The asset hasan expected economic life of 12 years. The lease isnoncancelable.
| Payment | Cash Payment | Effective Interest | Decrease in balance | Balance |
| 63,282 | ||||
| 1 | 10,000 | 10,000 | 53,282 | |
| 2 | 10,000 | 6,394 | 3,606 | 49,676 |
| 3 | 10,000 | 5,961 | 4,039 | 45,638 |
| 4 | 10,000 | 5,477 | 4,523 | 41,114 |
| 5 | 10,000 | 4,934 | 5,066 | 36,048 |
| 6 | 10,000 | 4,326 | 5,674 | 30,373 |
| 7 | 10,000 | 3,645 | 6,355 | 24,018 |
| 8 | 10,000 | 2,882 | 7,118 | 16,901 |
| 9 | 10,000 | ? | ? | ? |
| 10 | 10,000 | ? | ? | ? |
What would the lessee record as annual depreciation on the assetusing the straight-line method?
#XYZ Company leased equipment to West Corporation under a leaseagreement that qualifies as a capital lease to West but not as aresult of a bargain purchase option or a title transfer. Thepresent value of the asset is $600,000. The expected economic lifeof the asset is 10 years. The lease term is five years. Using thestraight-line method, what would West record as annualdepreciation?
# If the lessee and lessor use different interest rates toaccount for a capital lease, then:
Total expenses for the lessee will be different from thelessor's total revenues.
Total expenses for the lessee will equal the lessor's totalrevenues.
GAAP has been violated by at least one party.
The lessee will report more net income for the year.
##
Technoid Inc. sells computer systems. Technoid leases computersto Lone Star Company on January 1, 2016. The manufacturing cost ofthe computers was $12 million.
This noncancelable lease had the following terms:
⢠Lease payments: $2,466,754 semiannually; first payment at January1, 2016; remaining payments at June 30 and December 31 each yearthrough June 30, 2020.
⢠Lease term: five years (10 semiannual payments).
⢠No residual value; no bargain purchase option.
⢠Economic life of equipment: five years.
⢠Implicit interest rate and lessee's incremental borrowing rate:5% semiannually.
⢠Fair value of the computers at January 1, 2016: $20million.
Collectibility of the rental payments is reasonably assured, andthere are no lessor costs yet to be incurred.
Lone Star Company would account for this as:
A capital lease.
A direct financing lease.
A sales type lease.
An operating lease.
##
Refer to the following lease amortization schedule. The 10payments are made annually starting with the inception of thelease. Title does not transfer to the lessee and there is nobargain purchase option or guaranteed residual value. The asset hasan expected economic life of 12 years. The lease isnoncancelable.
| Payment | Cash Payment | Effective Interest | Decrease in balance | Balance |
| 63,282 | ||||
| 1 | 10,000 | 10,000 | 53,282 | |
| 2 | 10,000 | 6,394 | 3,606 | 49,676 |
| 3 | 10,000 | 5,961 | 4,039 | 45,638 |
| 4 | 10,000 | 5,477 | 4,523 | 41,114 |
| 5 | 10,000 | 4,934 | 5,066 | 36,048 |
| 6 | 10,000 | 4,326 | 5,674 | 30,373 |
| 7 | 10,000 | 3,645 | 6,355 | 24,018 |
| 8 | 10,000 | 2,882 | 7,118 | 16,901 |
| 9 | 10,000 | ? | ? | ? |
| 10 | 10,000 | ? | ? | ? |
What would be the outstanding balance after payment 10?
## Cady Salons leased equipment from Smith Co. on January 1,2016, in a Type B lease. The present value of the lease paymentsdiscounted at 10% was $80,000. Ten annual lease payments of $12,000are due at each January 1 beginning January 1, 2016. Following theguidance of the new ASU, the amortization of the right-of-use assetfor the reporting year ending December 31, 2016, would be:
## Karla Salons leased equipment from Smith Co. on July 1, 2016,in a Type A lease. The present value of the lease paymentsdiscounted at 10% was $80,000. Ten annual lease payments of $12,000are due each year beginning July 1, 2016. Smith Co. had constructedthe equipment recently for $66,000, and its retail fair value was$80,000.
Under the new ASU, what amount of interest revenue from the leaseshould Smith Co. report in its December 31, 2016, incomestatement?
### If the leaseback portion of a sale-leaseback transaction isclassified as an operating lease:
Any gain is deferred and recognized as a reduction of rentexpense.
Any gain is deferred and recognized as a reduction ofdepreciation.
Any gain is recognized at the lease's inception.
There can be no gain.
Problem 15-8 Guaranteed residual value; direct financing lease[LO15-3, 15-5, 15-8]
On December 31, 2016, Rhone-Metro Industries leased equipment toWestern Soya Co. for a four-year period ending December 31, 2020,at which time possession of the leased asset will revert back toRhone-Metro. The equipment cost Rhone-Metro $365,760 and has anexpected useful life of six years. Its normal sales price is$365,760. The lessee-guaranteed residual value at December 31,2020, is $25,000. Equal payments under the lease are $100,000 andare due on December 31 of each year. The first payment was made onDecember 31, 2016. Collectibility of the remaining lease paymentsis reasonably assured, and Rhone-Metro has no material costuncertainties. Western Soyaâs incremental borrowing rate is 12%.Western Soya knows the interest rate implicit in the lease paymentsis 10%. Both companies use straight-line depreciation. (FV of $1,PV of $1, FVA of $1, PVA of $1, FVAD of $1 and PVAD of $1)(Use appropriate factor(s) from the tablesprovided.) |
| Required: |
| 1. | Show how Rhone-Metro calculated the $100,000 annual leasepayments. |
| 2. | How should this lease be classified (a) by Western Soya Co. (thelessee) and (b) by Rhone-Metro Industries (the lessor)? |
| 3. | Prepare the appropriate entries for both Western Soya Co. andRhone-Metro on December 31, 2016. (If no entry is requiredfor a transaction/event, select "No journal entry required" in thefirst account field.) |
| Western Soya Co. (Lessee) |
| Rhone-Metro (Lessor) |
| 4. | Prepare an amortization schedule describing the pattern ofinterest over the lease term for the lessee and the lessor. |
| 5. | Prepare all appropriate entries for both Western Soya andRhone-Metro on December 31, 2017 (the second lease payment anddepreciation). (If no entry is required for atransaction/event, select "No journal entry required" in the firstaccount field.) |
| Western Soya Co. (Lessee) |
| Rhone-Metro (Lessor) |
| 6. | Prepare the appropriate entries for both Western Soya andRhone-Metro on December 31, 2020 assuming the equipment is returnedto Rhone-Metro and the actual residual value on that date is$1,500. (If no entry is required for a transaction/event,select "No journal entry required" in the first accountfield.) |
| Western Soya Club (Lessee) |
| Rhone-Metro (Lessor) |
