Debt to Equity Ratio calculation

CFA Level I
#1

Hello people,

I have a question on how the debt to equity ratio is calculated in Example 19, Reading 30 on Long lived assets in the CFA curriculum book. The question is about financial statement impact of Financial vs Operating Lease options.

In the Financial lease option, the total asset and liability at the start is recorded as 100,000. The annual lease payment is 28,769 which reduces the lease liability at the end of first year to be 71,321 (100,000-28,769). So far so good. For the next year, the interest on the remaining liability is calculated at 10% and is equal to 7,132.

To calculate the debt, the total liability is calculated as 100,000 + 71,321 + 7132 = 178,453. Why is this? Shouldn’t the total liability be 71,321 because a portion of it has been already paid?

Thanks in advance,

Cheers!

#2

The example states that “At the beginning of Year 1, before entering into the lease agreements, both companies reported liabilities of €100,000.”. So that clarifies the initial $100k. The $71k is the remaining lease liability at the end of year 1/beginning of year 2. And the remaining $7k is interest payable, due to the fact that at the beginning of year 1 when the first lease payment was made, no interest expense was recorded (because no time has passed). At the end of year 1 interest expense has accrued and is allocated to interest payable.