102. U.S. GAAP specifies criteria for a capital lease. Which of the following is not one of the criteria?
103. U.S. GAAP specifies criteria for a capital lease. Which of the following is not one of the criteria?
104. Firms must disclose in notes to the financial statements the cash flows associated with capital leases and
with operating leases for each of the succeeding _____ years and for all years after _____ years in the
aggregate.
105. Which of the following is/are not one of the conditions of a capital lease?
106. Which of the following is/are not one of the conditions of a capital lease?
107. When a capital lease for equipment is signed, the lessee records an asset called
108. When a capital lease for equipment is signed, the lessee records a liability called
109. Which of the following is/are true of capital lease transactions?
110. (CMA adapted, Dec 92 #10) There are many similarities between lessee and lessor accounting for the
capitalization of leases. Which one of the following is a criterion for the capitalization of a lease by a lessee?
111. Henson Manufacturing Company signed a 3-year contract for the use of certain manufacturing equipment
with an estimated life of three years. Henson Manufacturing Company cannot cancel the contract. What entry is
made to record the contract?
112. Quan Restaurant
On January 1, Year 7, Quan Restaurant is planning to enter as the lessee into the two lease agreements
described below. Each lease is noncancelable, and Quan does not receive title to either leased property during or
at the end of the lease term. All payments required under these agreements are due on January 1 each year.
Lessor
Hadaway Inc.
Cutter Electronics
Type of property
Oven
Computer
Yearly rental (not including executory costs)
$15,000
$4,000
Lease term
10 years
3 years
Economic life
15 years
5 years
Purchase option
None
$3,000
Renewal option
None
None
Fair market value at inception of lease
$125,000
$10,200
Unguaranteed residual value
None
$2,000
Lessee’s incremental borrowing rate
10%
10%
Executory costs paid by
Lessee
Lessor
Annual executory costs
$800
$500
Present value factor at 10% (of an annuity due)
6.76
2.74
(CMA adapted, Dec 93 #27) Refer to the Quan Restaurant example. Quan should treat the lease agreement with Hadaway Inc. as a(n)
113. Quan Restaurant
On January 1, Year 7, Quan Restaurant is planning to enter as the lessee into the two lease agreements
described below. Each lease is noncancelable, and Quan does not receive title to either leased property during or
at the end of the lease term. All payments required under these agreements are due on January 1 each year.
Lessor
Hadaway Inc.
Cutter Electronics
Type of property
Oven
Computer
Yearly rental (not including executory costs)
$15,000
$4,000
Lease term
10 years
3 years
Economic life
15 years
5 years
Purchase option
None
$3,000
Renewal option
None
None
Fair market value at inception of lease
$125,000
$10,200
Unguaranteed residual value
None
$2,000
Lessee’s incremental borrowing rate
10%
10%
Executory costs paid by
Lessee
Lessor
Annual executory costs
$800
$500
Present value factor at 10% (of an annuity due)
6.76
2.74
(CMA adapted, Dec 93 #28) Refer to the Quan Restaurant example. Quan Restaurant should treat the lease agreement with Cutter Electronics as
a(n)
114. On January 1, Year 1, Lamp Company acquires new equipment in exchange for a note. Lamp must pay a
lump sum of $32,000 on December 31, Year 3. The equipment is being specifically manufactured for Lamp, so
no market price exists for the equipment. On similar types of equipment purchases, Lamp has paid 15% interest.
The equipment has a five-year life and the company uses straight-line depreciation with a 10% salvage value.
Required:
Prepare journal entries to record the following:
a.
original acquisition of equipment
b.
any adjusting journal entry necessary at December 31, Year 1
c.
entry to record depreciation at December 31, Year 2
d.
entry to record payment on December 31, Year 3
a.
Equipment
21,041
Note Payable
21,041
b.
Interest Expense
3,156
Note Payable
3,156
Depreciation Expense
3,787
Accumulated Depreciation
3,787
c.
Depreciation Expense
3,787
Accumulated Depreciation
3,787
d.
Note Payable
32,000
Cash
32,000
115. On January 1, Year 6, Pearson Corporation issued $1,000,000 face value, 20-year bonds. The bonds carry
coupon interest of 6 percent per year, payable semiannually on June 30 and December 31. The bonds were
initially priced on the market to yield 8 percent, compounded semiannually (for an effective annualized yield
greater than 8 percent).
Required:
a.
Compute the issue price of these bonds on January 1, Year 6.
b.
Compute the amount of interest expense on these bonds for Year 6, assuming that the firm uses the effective-interest method of amortizing
bond premium or discount.
c.
Assume for this part that the firm recorded interest expense in Part b. in an amount equal to interest paid for the year. That is, it failed to
record amortization of bond premium or discount. Indicate the effect (direction and amount) of this omission on the line items in the
statement of cash flows using “O/S” (overstated), “U/S” (understated), or “No” (no effect). Ignore income taxes.
Net Income
Adjustments that are added to net income
Cash Flow from Operations
0
3
16
c.
1)
O/S
116. Rotor Corporation issues $10,000,000 face value, 10-year, 6% semiannual coupon bonds
on January 1, 2013. The bonds require coupon payments on June 30 and December 31 of
each year. The market initially priced the bonds to yield 6% compounded semiannually.
The current market yield on these bonds was 6.2% compounded semiannually on June 30,
2013, and 6.6% compounded semiannually on December 31, 2008. Rotor Corporation
computes interest expense for each six-month period using the market yield at the beginning
of the period.
Required:
a. Compute the carrying value of these bonds on January 1, June 30, and December 31
of 2013, using the fair value option. You may interpolate in the interest tables or use a
calculator or use a spreadsheet program to compute the compound interest factors not
provided in the tables.
b. Compute the total amount of interest expense and unrealized gain or loss for the first
six months of 2013. Do not attempt to separate this amount into interest expense and
holding gain or loss.
c. Compute the total amount of interest expense and unrealized gain or loss for the second
six months of 2013. Do not attempt to separate this amount into interest expense and
holding gain or loss.
117. Indicate whether each of the following independent transactions is a capital (C) or operating (O) lease.
a.
__________ A firm signs a 5-year lease for equipment with a 7-year life.
b.
__________ A firm signs a lease for property with a fair market value of $20,000. The present value of the lease payments is $16,000.
c.
__________ A firm signs a lease for equipment which will allow the lessee to purchase the equipment at the end of the lease for one-
half the fair market value.
d.
__________ A firm signs a 16-year lease for equipment with a 20-year life.
e.
__________ A firm signs a lease for property with a fair value of $90,000. The present value of the lease payments is $85,000.
118. The annual report of Sign Corporation for Year 1 reports capital leases requiring payments totaling $228
million over future years, including $58 million payable at the end of Year 2. The interest rate on these
obligations is 12 percent and their present value (discounted at 12 percent) at the end of Year 1 was $181
million. The assets financed by capital leases appear on the Year 1 year-end balance sheet at $220 million.
Assume no new leases were entered into during Year 2 and that leasehold assets have a remaining useful life of
10 years at the start of Year 2, but no salvage value. Ignore income taxes.
Required:
a.
What would be the total expense for Year 2 for the leasehold assets and the financing thereof?
b.
What would be the total cash expenditure during Year 2 related to the leasehold assets and the financing thereof?
c.
What would be the balance sheet amount for leasehold assets at the end of Year 2?
d.
What would be the balance sheet amount for lease obligations at the end of Year 2?
a.
$ 43.7 million [43.7 = 220/10 + .12 ´ 181 = 22 + 21.7]
$ 58 million
c.
$ 198 million [198 = 220 ´ 9/10 = 220 – 22]
d.
$ 144.7 million [144.7 = (181 ´ 1.12) – 58 = 202.7 – 58.0]
a.
Operating
Operating
c.
Capital
d.
Capital
e.
Capital
119. ALT Company, as tenant, acquired for $600,000, paid in a single amount, the right to use an entire office
building for the next ten years. ALT expects to rent out the floors in the building to various commercial tenants.
As tenant, ALT accounts for its lease as a capital lease amortizing the leasehold asset on a straight-line basis
over ten years. ALT, as landlord, signed operating leases with the tenants for all of the rentable space. The rents
total $150,000 received at the end of each year for the next ten years, $1.5 million in total.
Required:
a.
Under current GAAP, can ALT treat the same property as a capital lease and an operating lease?
b.
What is the book value of this property after two years?
Assume, independent of your answer to the preceding question, that the book value of the property after two years is $400,000. On that
date, some of the tenants go bankrupt and ALT believes it will be unable to rent their now-vacant space, which will remain empty for the
remaining eight years. The fair market value of the remaining leasehold with still-solvent, rent-paying tenants is $300,000.
c.
If the remaining tenants will pay $800,000 in total, with present value $310,000, what entry, if any, will ALT make?
d.
If the remaining tenants will pay $320,000 in total, with present value $290,000, what entry, if any, will ALT make?
b.
$480,000 = $600,000 ´ (10 – 2)/10
d.
Dr. Loss 100,000 [= 400,000 – 300,000]; Cr. NCA [Leasehold] 100,000
120. Bolton Co. leases workout equipment to health clubs. On January 1, Year 1, Bolton Co. leases to
Powerhouse Gym, equipment valued at $150,000, for 2 years. The equipment has a 12-year life with zero
salvage value. The lease payments equal $2,500 per year, payable on the last day of the year.
Required:
a.Identify the type of lease. Give reasons for your conclusion.
b.State the correct entries to be made by the lessor for this lease. You may assume straight-line depreciation is
used by Bolton.
121. Raines Corporation entered into a five-year lease for a computer on January 1, Year 3. The lease requires
Raines to make equal payments of $20,000 on January 1 each year for the five years of the lease, with the first
payment made on January 1, Year 3. Raines’ borrowing rate is 10 percent. Raines uses the straight-line
depreciation method for financial reporting. It estimates a zero salvage value. The accounting period is the
calendar year. Round amounts to the nearest dollar.
Required:
a.
Give the journal entries that Raines would make during Year 3 if this lease were considered an operating lease for financial reporting.
b.
Repeat [a] but assume the lease is a capital lease for financial reporting.
c.
Assume that this lease is considered a capital lease for financial reporting. Calculate depreciation expense for financial reporting purposes
for Year 3 and Year 4.
d.
Compute the total expenses (ignore income taxes) that Raines would recognize over the 5-year term of the lease, assuming it is an
operating lease.
e.
Repeat [d] but assume the lease is a capital lease.
a.
Prepaid Rent
20,000
Cash
20,000
Rent Expense
20,000
Prepaid Rent
20,000
Leased Asset
83,397
Lease Liability
63,397
Cash
20,000
$83,397 = $20,000 + ($20,000 ´ 3.16987).
Interest Expense
6,340
Interest Payable
6,340
$6,340 = .10 ´ $63,397.
Depreciation Expense
16,679
Accumulated Depreciation
16,679
$16,679 = $83,397/5.
c.
Depreciation Expense
16,679
Accumulated Depreciation
16,679
$16,679 = $83,397/5.
Depreciation Expense
$ 16,679
Accumulated Depreciation
$ 16,679
$16,679 = $83,397/5.
d.
Rent expense: $20,000 ´ 5
$100,000
e.
Depreciation Expense
$ 83,397
Interest Expense ($100,000 – $83,397)
16,603
$100,000
122. The following information is available from the comparative balance sheets and related income statement
of the Horner Company for the year ended December 31, Year 7.
December 31,
December 31,
Year 6
Year 7
Present value of lease obligation
$2,040,508.60
$1,862,939.10
Leasehold (net of accumulated amortization)
$1,987,224.30
$1,766,421.60
Interest expense on lease obligation for Year 7
$ 122,430.52
The company has only one lease contract outstanding, which it entered into on January 1, Year 6. The contract called for 10 equal lease payments
commencing on December 31, Year 6.
Required:
a.
What was the interest rate used to value the lease?
b.
What is the annual lease payment?
c.
What was the present value of the lease obligation on January 1, Year 6?
d.
What was the amortization expense for Year 6?
6% = $122,430.52/$2,040,508.60.
b.
$300,000 = $122,430.52 + ($2,040,508.60 – $1,862,939.10). (.02 rounding error)
c.
$2,208,027 = $300,000 ´ 7.36009.
d.
$220,802.70 = $2,208,027/10.
123. Describe the sources of long-term debt financing.
SOURCES OF LONG-TERM DEBT FINANCING
124. Consider a firm that recently issued bonds. Further, consider that the firm also set up a bond sinking fund.
Required:
a.
Why would a firm create a long-term liability?
b.
Why would a firm set up a bond sinking fund?
c.
If a firm paid $10,000 into its bond sinking fund at the end of the year, how would this transaction be journalized?
c.
Debit to bond sinking fund (noncurrent asset) and credit to cash.