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CORPORATE FINANCIAL REPORTING

21 - Financial Reporting Of Leases. CORPORATE FINANCIAL REPORTING. S IMPLE L EASE E XAMPLE.

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CORPORATE FINANCIAL REPORTING

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  1. Dilutive Securities and EPS 21 - Financial Reporting Of Leases CORPORATE FINANCIAL REPORTING

  2. SIMPLE LEASE EXAMPLE Equipment costs $30,000 new, LESSEE leases the equipment for 3 years, payments at the beginning of each year. Lessee expects a residual value of $10,000 at the end of the 3 years and wants to earn 10%/year on the unpaid balance. The equipment has a 7 year life. 1/2/12 1/2/13 1/2/14 12/31/14 | | | | $30,000 $10,000 HOW MUCH ARE THE ANNUAL LEASE PAYMENTS?

  3. SIMPLE LEASE EXAMPLE Suppose you “believed” the equipment was not your asset so you did not record the asset or liability – in financial reporting terminology you would be saying the lease was an “operating lease.”

  4. SIMPLE LEASE EXAMPLEif it is an Operating Lease 1/2/12 1/2/131/2/14 12/31/14 | | | | $8,220 $8,220 $8,220 How should you record the lease payments?

  5. SIMPLE LEASE EXAMPLEif it is a capital Lease Now, suppose you believed the equipment was your asset – in reporting terminology you would be saying the lease were a “capital (or finance/financing) lease.”

  6. SIMPLE LEASE EXAMPLEif it is a capital Lease 1/2/12 1/2/131/2/1412/31/14 | | | | $ 30,000 $10,000 At 1/2/12: (Assume for now, the residual value was not guaranteed by the lessee.)

  7. SIMPLE LEASE EXAMPLEif it is a capital Lease Lessee is making 3 payments of $8,220 - a total of $24,660; but the liability is recorded at $22,486

  8. SIMPLE LEASE EXAMPLEif it is a capital Lease 1/2/12 1/2/131/2/14 12/31/14 | | | | $ 30,000 10,000 At 1/2/12- 1/2/14 :

  9. Can the lessee cancel the lease? yesno Does title transfer at the lease end?yes BOO ! no CAPITAL Is there a bargain purchase option? yes LEASE no Is the lease for ≥ ¾ of the asset’s useful life? yes no Is the PVMLP ≥90% assets fair value? yes no HURRAY ! OPERATING LEASE LEASES – WHICH IS IT?(OR HOW TO AVOID CAPITAL LEASES)

  10. LEASESINTERNATIONAL VIEW IAS 17 is similar to FAS 13, but is more “principles” based – it gives situations that individually or in combination would lead you to classify a lease as a finance lease. The idea is that a finance lease transfers substantially all the risks and rewards of ownership to the lessee.

  11. LEASESAdditional Considerations Residual value - unguaranteed or guaranteed Executory costs treatment Lessee’s interest rate -incremental borrowing rate unless…

  12. LEASESAdditional Considerations Lessor Accounting Lessor’s Initial Direct Costs (IDC): 1-incremental direct costs (paid to 3rd parties) & 2-internal direct costs(internal indirect costs – are not IDC and are expensed immediately)

  13. LEASESAdditional Considerations Real Estate Sale and Leaseback

  14. SALE AND LEASEBACK(Appendix 21 A) Fairly Common Transactions (or pair of transactions)

  15. SALE AND LEASEBACK Seller / lessee’s accountant looks at it as two (related) transactions. Transaction 1 – the sale – like the sale of PPE in ACCT 3220, but with a difference: gains/losses are not recorded immediately.* Transaction 2 – the leaseback – treated as either an operating or capital lease. * There are two exceptions to this general rule.

  16. LEASES – WHAT YOU SHOULD DO WHEN READING FINANCIAL STATEMENTS: IAS and American standards differ in detail, but both give you a method to “undo” management maneuvers to avoid capital leases.

  17. THE LEASE:LESSOR ACCOUNTING LESSEE:LESSOR: Operating lease Operating lease Sales type lease Capital lease or Direct financing lease

  18. THE LEASE:LESSOR ACCOUNTING In general, if it is a capital lease for the lessee, then the lessor considers the asset to be sold, but not always. To be considered “sold” the lessor has two additional criteria that must be met: Lessor is “certain” of payment and Lessor has no material uncertain costs.

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