12–46
Requirement 4:
MONTHLY REDUCTION
PAYMENT INTEREST LEASE IN RECEIVABLE
DATE INCOME PAYMENTS RECEIVABLE BALANCE
09/01/14 60,000.00$
09/01/14 –$ 1,789.20$ 1,789.20$ 58,210.80
10/01/14 582.11 1,789.20 1,207.09 57,003.71
11/01/14 570.04 1,789.20 1,219.16 55,784.55
12/01/14 557.85 1,789.20 1,231.35 54,553.20
01/01/15 545.53 1,789.20 1,243.67 53,309.53
02/01/15 533.10 1,789.20 1,256.10 52,053.43
08/02/15 455.82 1,789.20 1,333.38 44,248.57
09/02/15 442.49 1,789.20 1,346.71 42,901.86
10/02/15 429.02 1,789.20 1,360.18 41,541.68
11/02/15 415.42 1,789.20 1,373.78 40,167.90 2015 reductions
12/02/15 401.68 1,789.20 1,387.52 38,780.38 15,772.82$
06/01/16 316.32 1,789.20 1,472.88 30,158.97
07/01/16 301.59 1,789.20 1,487.61 28,671.36
08/01/16 286.71 1,789.20 1,502.49 27,168.87
09/01/16 271.69 1,789.20 1,517.51 25,651.36
10/01/16 256.51 1,789.20 1,532.69 24,118.67
04/01/17 162.22 1,789.20 1,626.98 14,595.27
05/01/17 145.95 1,789.20 1,643.25 12,952.02
06/01/17 129.52 1,789.20 1,659.68 11,292.34
07/01/17 112.92 1,789.20 1,676.28 9,616.06
08/01/17 96.16 1,789.20 1,693.04 7,923.02
12–47
Requirement 5:
Gross profit:
Revenue 60,000.00$
Less Cost of goods sold 24,000.00 36,000.00$
Interest income (Sept 1 – Dec. 31)
(sum of boxed area in Interest income
column)
2,255.53
38,255.53$
Requirement 6:
Net investment in leased asset – current
(Sum of amounts in Reduction in
receivable column of $15,722.82 +
interest due on 1/01/2015 of $545.53)
16,318.35$
Net investment in leased asset – noncurrent
(From Receivable balance column at 12/01/2015) 38,780.38
55,098.73$
Requirement 7.2:
This is a capital lease for Mitchum because Criterion 4 is met. The test is
given in part 2 above.
12–48
Requirement 7.3:
DR Leased asset
($3,000 present value x 20) 60,000.00$
($3,000 present value x 20) 60,000.00$
CR Cash 1,789.25
Requirement 7.4:
In this case, Mitchum would use the same amortization table as used by
Moore in Requirement 4. Mitchum’s Interest expense would be equal to
Moore’s Interest income. Instead of receiving cash, Mitchum would be
paying cash, and it has a payable instead of a receivable. If the residual
value had not been guaranteed or if Mitchum were using its incremental
borrowing rate, the tables for Moore and Mitchum would be different.
Requirement 7.5:
Depreciation expense
[4 months x ($60,000 present value less
$8,000 guaranteed residual)÷36 months]
5,777.78$
Interest expense (Sept 1 – Dec. 31)
(sum of boxed area in Interest income
column from part 4)
2,255.53
8,033.31$
12–49
Requirement 7.6:
Leased asset 60,000.00$
Less: Accumulated depreciation (5,777.78)
54,222.22$
Obligation under capital lease – current
(Sum of amounts in Reduction in
receivable column of $15,722.82 + interest
due on 1/01/2015 of $545.53 from
16,318.35$
Obligation under capital lease – non-current
(From Receivable balance column at
12/01/2015 from Requirement 4)
38,780.38
55,098.73$
Note that the total liability amount is greater than the asset amount.
P12–13. Comparing financial statement effects of capital and operating leases
(LO 2, 3, 5)
2). The lease term covers 72.7% of the assets’ useful life (8/11) so the
greater than or equal to 75% (criterion 3) is not met. However, the present
value of the minimum lease payments is $55,348,200 (see below) which is
12–50
= $55,348,200
Requirement 2:
Appearing below is the amortization schedule for the lease liability:
Interest Principal
Date
Expense1Payment2Reduction3Balance4
01-Jan-14 55,348,200$
31-Dec-14 4,981,338$ 10,000,000$ 5,018,662$ 50,329,538
31-Dec-15 4,529,658 10,000,000 5,470,342 44,859,196
31-Dec-16 4,037,328 10,000,000 5,962,672 38,896,524
31-Dec-17 3,500,687 10,000,000 6,499,313 32,397,211
31-Dec-18 2,915,749 10,000,000 7,084,251 25,312,960
31-Dec-19 2,278,166 10,000,000 7,721,834 17,591,126
31-Dec-20 1,583,201 10,000,000 8,416,799 9,174,327
31-Dec-21 825,673
*
10,000,000 9,174,327 –
The journal entries are:
1/1/2014:
DR Aircraft under capital leases $55,348,200
CR Obligations under capital leases $55,348,200
12/31/2014:
DR Obligations under capital leases 5,470,342
DR Obligations under capital leases 5,962,672
CR Cash $10,000,000
12/31/2017:
DR Interest expense $3,500,687
DR Depreciation expense $6,918,525
CR Accumulated depreciation
—leased aircraft $6,918,525
Requirement 3:
Journal entries for 2014, 2015, 2016, and 2017, assuming the lease is an
Date
Interest
expense
Depreciation
expense
Total Operating lease Difference
12/31/2014 4,981,338$ 6,918,525$ 11,899,863$ 10,000,000$ 1,899,863$
12/31/2015 4,529,658 6,918,525 11,448,183 10,000,000 1,448,183
12/31/2016 4,037,328 6,918,525 10,955,853 10,000,000 955,853
12/31/2017 3,500,687 6,918,525 10,419,212 10,000,000 419,212
12/31/2018 2,915,749 6,918,525 9,834,274 10,000,000 (165,726)
12/31/2019 2,278,166 6,918,525 9,196,691 10,000,000 (803,309)
12/31/2020 1,583,201 6,918,525 8,501,726 10,000,000 (1,498,274)
12/31/2021 825,672 6,918,525 7,744,197 10,000,000 (2,255,803)
24,651,800$ 55,348,200$ 80,000,000$ 80,000,000$ –$
Capital lease
12–52
the operating lease method, the annual income statement effect is the
amount of the annual lease payment.
As can be seen from the above table, income before tax would be lower
P12–14. Comparing financial statement effects of direct financing and
operating leases (LO 7, 8)
The present value of the future minimum lease payments of $99,817,750
(see below) exactly equals the leased asset’s fair market value at the
12–53
Copyright © 2015 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill
Education.
Under the operating method, the firm would recognize rental income of
$25,000,000 each year along with depreciation expense of $19,963,550
(i.e., $99,817,750/5).
12–55
Based on these calculations, the year-to-year income statement and balance sheet differences under the two
methods appear in the following table:
Operating Method versus Direct Financing Method:
Income Statement and Balance Sheet Comparisons
Direct
Operating
Financing
Operating
Direct
Method
Method
Asset
Lease
Annual
Method
Financing
Income
Asset
Asset
Balance
Year
Payment
(a)
Deprec.
(b)
Income
(c)
Income
(d)
Difference
(e)
Balance
(f)
Balance
(g)
Difference
(h)
12/31/14
$25,000,000.00
$19,963,550.00
$5,036,450.00
$7,985,420.00
($2,948,970.00)
$79,854,200.00
$82,803,170.00
($2,948,970.00)
12/31/15
25,000,000.00
19,963,550.00
5,036,450.00
6,624,253.60
(1,587,803.60)
59,890,650.00
64,427,423.60
(4,536,773.60)
12/31/16
25,000,000.00
19,963,550.00
5,036,450.00
5,154,193.89
(117,743.89)
39,927,100.00
44,581,617.49
(4,654,517.49)
12/31/17
25,000,000.00
19,963,550.00
5,036,450.00
3,566,529.40
1,469,920.60
19,963,550.00
23,148,146.89
(3,184,596.89)
12/31/18
25,000,000.00
19,963,550.00
5,036,450.00
1,851,853.11
3,184,596.89
0.00
0.00
0.00
$125,000,000.00
$99,817,750.00
$25,182,250.00
$25,182,250.00
$0.00
(a) The annual payment is given as $25,000,000.
(b) Annual depreciation under the operating method is: $99,817,750/5 = $19,963,550.
(c) Income under the operating method is equal to a – b.
(d) Income under the direct financing method was calculated in the table above.
(e) The income difference is c – d. A negative (positive) number means income under the operating method
was lower (higher).
P12–15. Constructively capitalizing operating leases (LO 2, 10, 11)
Requirement 1:
Between 2014 and 2016, the operating lease payments decrease by $30
each year. Based on this decline, it can be assumed that the payment for
2017 is approximately $320 ($350 less $30). Also, for simplicity, we can
Estimated remaining years for the operating leases = 9
Estimate of capitalized operating lease liability
Year
Lease payment
PV factor @ 8%
Discounted PV
2015
$ 500
.92593
$ 463
2016
450
.85734
386
2017
410
.79383
325
2018
380
.73503
279
2019
350
.68058
238
2020
To
320
4.25153*
1,360
2128
Total
$3,051
*Present value of an ordinary annuity for 14 years at 8% minus present
value of an ordinary annuity for 5 years at 8% (8.24424 – 3.99271).
Requirement 2:
12–57
retained earnings and deferred income tax liabilities. Other more
complicated estimates of the asset value may also be made.
Requirement 3:
P12–16. Evaluating sale and leaseback (LO 3, 9)
Requirement 1:
This is a capital lease for Merchant because the lease meets at least one of
the criteria for capital lease treatment. In fact, the lease meets two of the
12–58
CR Tractor $200,000
CR Deferred gain 50,000
P12–17. Visualizing the asset-liability relationship over time for a
capital lease
Requirement 1:
a) At 8%, the accrual of interest causes the liability at the end of the first
Requirement 2:
a) With payments at the end of each year, the carrying value of the asset
will never exceed the liability when the discount rate is 8% and the lease
runs for twenty years.
P12–18. Analyzing U.S. GAAP and IFRS operating lease disclosures
(LO 10, 11)
Requirement 1:
The United Continental Holdings footnote is more informative because it
5. Another alternative is somewhat more complicated and would rely on
12–60
Year 2
Year 3
Year 4
Year 5
Total
$641.88
$515.50
$427.74
$384.97
$1968.1