What number should rufruf budget as the cash outflow

Assignment Help Financial Management

Reference no: EM132362607

Workshop Questions

1) Irons Ltd entered into a non-cancellable, five-year lease agreement on 1 April 2010. The lease was for a piece of equipment, which at inception had a fair value of $1,135,512. The machinery is expected to have an economic life of six years, after which time it will have an expected salvage value of $210,000.

There are to be five annual payments of $350,000, the first to be made on 31 March 2011 (i.e. at the end of the year). Included in the $350,000 is $35,000 representing payment to for insurance and maintenance (i.e. Executory costs). Ownership will be transferred at the end of the lease and the implicit interest rate is 12% (to make fair value equal PV of MLP) and straight
line depreciation is used (Assume 31 March Year-end).

a) As required by the relevant Spotlight Reporting wizards, fill-in the following. Justify your choice of loan amount and depreciation rule.

*Loan Amount*	$231,140
*Start Date*	1 April 2011
*Interest Rate*	12%
*Loan Period*	5 Years
*Repayment Frequency*	Yearly
*Purchase Value of Asset*	$231,140
*Depreciation Rule*	7 years or 14.29%

1b) Doing so has resulted in the following lease table.

*Year*	*Lease Payment*	*Lease Liab*	*Interest* *Part*	*Principal* *Part*
1	56,250	231,140	27,737	28,513
2	56,250	202,627	24,315	31,935
3	56,250	170,692	20,483	35,767
4	56,250	134,925	16,191	40,059
5	56,250	94,866	11,384	44,866

Record the journal entries for the first year of the lease, including depreciation.

1c) RufRuf, the CFO of Scottish Terrier Ltd is doing his cash budget. Explain the effect on cash flows and what number should RufRuf budget as the cash outflow?

1d) RufRuf, the CFO of Scottish Terrier Ltd has to go to the bank to ask for a new loan, but is still confused by lease accounting. Explain, from the perspective of a debt investor, whether the usefulness of seeing Scottish Terrier Ltd's Right of Use Asset and Lease Liability.

2) Racing Car Ltd leases carparks for the use of its CEO and CFO in the Auckland CBD. The terms of the lease state that although two carparks will always be provided, the car parking company can vary (with a 1 week notice) the location of the carparks between four buildings, which range between 100m and 500m from the headquarters of Racing Car Ltd. The carparks each have a fair value of $180,000 and are leased for three years with an annual rental payment of $3,000. Comprehensively explain how Racing Car Ltd should account for the lease of the carparks and justify your explanation.

3) Battleship Ltd entered a finance lease for seven years, and the leased asset is recorded in its books at $250,000 at the date of inception. The asset is expected to have a useful life of eight years. The assets expected salvage value of $10,000.

a) Calculate yearly depreciation if ownership is transferred at the end of the lease.
b) Calculate yearly depreciation if ownership is not transferred at the end of the lease.

c) What is the effect on Net Profit between a) and b)

4) Fill in the following table: The interest rate is 7%

As reported in the Balance Sheet at the end of the year
Year	Lease payment	Lease Liab	Interest	Principal Repayment	Current Portion	Non-Current Portion
1	15,000		4,305
2	15,000
3	15,000
4	15,000
5	15,000

2 Questions: Leases

a) Yang Motorbikes entered into a non-cancellable, five-year lease agreement on 1 April 2010. The lease was for a piece of complicated equipment with a related service component, which is expected to have an economic life of twelve years, after which time it will have an expected residual value of $210,000. Ownership is not transferred.

There are to be five annual payments of $350,000, the first to be made on 31 March 2011 (i.e. lease payments are payable at the end of the year). Included in the $350,000 is $35,000 representing payment for administrative processing. Straight line depreciation is used. The interest rate is 5%. (Assume 31 March year-end).

1a) Fill in the following table.

Year Cash Lease Liab Executory Lease Liab

Interest

Payment OB Costs Repayment

5
1b) Record the relevant journal entries relating to the leased asset for Yang Motorbikes relating to the years ending 31 March 2011 (including the inception of the lease).

1c) A rival competitor, Blake Motorbikes, also leases the complicated piece of equipment but does not capitalise the lease (i.e. it simply records rent expense). Blake Motorbikes makes a return on assets of 8%. Currently Yang Motorbikes has assets of $10 million and an EBIT of $800,000, which also results in a ROA of 8%. Yang thinks her company is more efficient than Blake Motorbikes. Explain to her whether this is true or not by recalculating the ROA of Yang Motorbikes as it would be if the same accounting methods as Blake Motorbikes were used.

1d) Yang is worried that the bank may only read the financial statements and value Yang Motorbikes no differently than Blake Motorbikes. Should she be? Explain why or why not.

Reference no: EM132362607

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