# Leases and Off-Balance Sheet Debt Question!!!

1. On January 1, a company entered into a capital lease resulting in an obligation of \$10,000 being recorded on the balance sheet. The lessor’s implicit interest rate was 12 percent. At the end of the first year of the lease, the cash flow from financing activities section of the lessee’s statement of cash flows showed a use of cash of \$1,300 applicable to the lease. The amount the company paid the lessor in the first year of the lease was closest to: A. \$1,200. B. \$1,300. C. \$2,500. D. \$10,000. Please, give your answer and reasoning.

Haven’t gotten to this section for re-review yet, but I think it’s straight-forward. Cash flows show use of cash of \$1300. I think that B is the correct answer. Lessor’s implicit interest rate does not factor in. There are no balance sheet accounting aspects to the question. Just simple cash flow.

C CFO

A - 1,200 Wouldn’t that be CFO? Interest expense of 12% * 10,000 = 1,200. Interest is classified as CFO, and represents cash company paid the lessor in the first year. Total expense is 2,500, but 1,300 of this is Operating non-cash expense a.k.a Depreciation, and is classified as CFF.

FisherSU Wrote: ------------------------------------------------------- > A - 1,200 > > Wouldn’t that be CFO? Interest expense of 12% * > 10,000 = 1,200. Interest is classified as CFO, and > represents cash company paid the lessor in the > first year. > > Total expense is 2,500, but 1,300 of this is > Operating non-cash expense a.k.a Depreciation, and > is classified as CFF. I was thinking that the CFF of 1300 was the ‘principal’ payment of the lease…add to that the interest which would be in CFO closer to 2500 than 10,000…am I misunderstanding capital lease payments ?

RIGWDL3 —> You are correct.

C - 2500 I believe. In a capital lease, the total cash lease payment is split between an interest portion and a paydown of the lease liability on the balance sheet. The lease liability paydown portion is classified as CFF I believe. That part is given, 1300. The other part is the interest portion which is the total liability X interest rate, (10,000 X.12) = 1200. Total cash that was paid to lessor = 1300+1200 = 2500.

Im guessing C

RIGWDL3 you r right. Seems like i’m misunderstanding capital leases

Thanks for the replies on this question. Simple example and explanation that helped me understand the components of CFF and CFO in relation to capital leases

C. Interest Expense on \$10,000 @ 12% = 1,300 therefore: CFO - 1,300 CFF - 1,200 Total cash payment = \$2,500

but principal repayment is only 1300 --> so B is the right answer. “The amount the company paid the lessor in the first year of the lease was closest to” is what is asked for. cp

cpk123 Wrote: ------------------------------------------------------- > but principal repayment is only 1300 --> so B is > the right answer. > > “The amount the company paid the lessor in the > first year of the lease was closest to” is what is > asked for. > > cp Not true. The question asks the amount of CASH the lessor in the first year of the lease: DR Int. Exp 1200 DR Capital Lease Obligation 1300 CR Cash 2500

where does it say that in the question?? I did a copy paste from the question above: The amount the company paid the lessor in the > first year of the lease was closest to"

cpk123 Wrote: ------------------------------------------------------- > where does it say that in the question?? > > I did a copy paste from the question above: The > amount the company paid the lessor in the > > first year of the lease was closest to" “The amount the company paid the lessor” = The company paid the the lessor with cash.

what the lessor is paid is only Repayment of principal. The rest 1200 is what you are paying because you took a “loan”. This is akin to you taking a mortgage and paying P & I on it. only the P part counts for this question. So 1300 is the answer.

No. The lessee (borrower) pays lessor (creditor) pays principal + interest in cash. If the lessor was only paid principal it would be a 0% interest loan. When you pay your mortgage payment do you pay principal only, no. Your payment is part interest and part principal.

ok… got my concepts wrong, and was misled by reading the post from the original poster saying 1300 was the right answer. whodey you are right. The question is asking for the entire payment, which is 2500, and I now remember the question from Stalla… in its entirety. Sorry again. CP

no problem, didn’t mean to sound argumentative