Capital lease

CFA Level I
#1

I am having hard time understanding why the interest expense portion of the capital lease is not included while calculating the operating income. In the case of operating lease, the entire lease payment is deducted from operating income. At the same time, for capital leases, both interest expense and depreciation expense hit the income statement, but only depreciation expense is deducted from the operating income. Any comments please? Is this why CFO is higher for Capital lease compared to operating lease?

#2

In a capital Lease Both Interest Expense and Depreciation Expense hit the income statement. And in the initial periods of the Lease the sum total of both of these is > Minimum lease Payment (which is Rent Expense on an Operational Lease). The Depreciation expense gets added back while calculating CFO. So Rent Expense In OL > Interest Expense in CL (both of which are components of CFO). So CFO OL < CFO CL. CP

#3

Thanks CPK. I understood your explanation on why CFO OL is less than CFO CL. Could you please tell me why interest expense portion of the capital lease is not included while calculating the operating income ( not CFO)?

#4

Not considered CFO under GAAP (as far as I know).

#5

Operationg income = EBIT

#6

Thanks… Got it now.