Reference no: EM132505160

Point 1: Alpha Shipping provides domestic and international transportation and logistics services to customers. The company contracts shipping vessels, trucks, and aircraft to provide regional, long-haul, and international shipments of customer goods. Alpha has entered into the following contracts:

Point 2: In March 2020, Alpha entered into a revenue contract with a customer, Make It Manufacturing, in which Alpha would be the exclusive shipper of Make It's products between Rome and Miami. Alpha's contract with Make It is effective on July 1, 2020. Before signing the contract with Make It, Alpha did not operate the Rome-Miami route, and to satisfy the contract with Make It, in April 2020, Alpha leases a cargo ship from Big Ship Manufacturing, which commences on July 1, 2020.

Point 3: Because the shipping route is new, on July 1, 2020, (1) Alpha has no other customers to deliver goods on the Rome-Miami route and (2) because of operational costs, Alpha does not have alternative uses for the rleased cargo ship. Alpha adopted ASC 842, Leases, on January 1, 2020.

The following are relevant facts about Alpha's revenue contract with Make It, and Alpha's lease with Big Ship. Alpha's Revenue Contract With Make It

1. The revenue contract's stated term with Make It is for one year.
2. Make It can renew the contract annually for up to four additional years. Therefore, the revenue contract can extend to five full years.
3. Make It pays a significant up-front nonrefundable fee for the initial one-year term; the same amount is due at the beginning of every renewal period.
4. Make It can cancel at any time without incurring a penalty outside of forfeiting any up-front nonrefundable fees already paid or owed at the beginning of the initial contract term and any and each renewed period.
5. Although the contract is new, Alpha and Make It have entered into similar arrangements with similar terms and historically, Make It has renewed for one or more years.
6. Alpha appropriately concludes that (1) the revenue contract meets the scope of, and criteria in, ASC 606, Revenue From Contracts With Customers, and (2) the contract term for its revenue contract with Make It is one year.

Alpha's Lease With Big Ship

1. The contract between Alpha and Big Ship contains a lease under ASC 842.
2. Rental payments are at market and fixed each year.
3. To mitigate risks, Alpha negotiated the lease period and renewal options to mirror those of Alpha's revenue contract with Make It. As a result, the fixed, noncancelable term of the lease is one year, and Alpha can renew annually for four additional years (i.e., up to five full years). Alpha believes that since Make It can terminate the revenue contract after one year (even though Make It may need to ship products for longer than a year and has historically renewed under other similarly structured contracts), it is uncertain whether Make It will renew the revenue contract. Because of this uncertainty, Alpha believes that the renewal options related to the lease are not reasonably certain at the commencement date of the lease.
4. As a result, Alpha concludes that the lease term for its lease contract with Big Ship is also one year.

Required:

Question 1. Do you agree with Alpha's conclusion that the lease term for the cargo vessel is one year because the revenue contract is for one year?

Question 2. What factors should Alpha consider in supporting its conclusion related to the lease term?