Outrageous Capital lease question - give it a shot

CFA Level I
#1

A firm that capitalizes rather than expensing costs will have: A) higher income variability. B) lower cash flows from operations. C) lower cash flows from investing. D) lower profitability in the earlier years.

#2

C?

#3

A sure

#4

D - lower profitability, since NI is less under capital leases because of Depreciation.

#5

c

#6

Yep, its C. You set up an asset when you capitalize the cost (outflow under investing) and then depreciate this over the useful life.

#7

C sure. A, B and D are features of expansing rather than capitalizing.

#8

C definitely

#9

yes, it’s C. I was completely off on that one. Back to Leases!

#10

This isnt really for a lease. Think about capitalizing interest, which increases the size of the asset you put on the balance sheet. If you expense it immediately, NI will drop significantly, whereas capitalizing with even out NI over the depreciable life. - A is out D is out because the full expense in year 1, rather than a portion of the expense will surely lead to lower NI. The full amount of the expense would go to CFO, whereas this is not the case for the capitalized cost. As such CFO is actually higher by capitalizing.

#11

D

#12

guys it says “Capital lease question” -_- the answer is D fisher u were right at first … unless i too have to go back to studying leases again

#13

Alright guys Schweser says the answer is C However, the CFAI book specifically says on page 523 that “in general, firms with operating leases report higher profitability, interest coverage (as interest expense is lower), ROE, ROA…” The answer should be D I think this is a poorly written question. I see why some of you said C. Probably because you thought about the effects of capitalizing versus expensing IN THE FIRST YEAR. This is just a ridiculous question

#14

but we are talking about leases here, not capitalizing interest. If you go back to page 523 in FSA, the table on top of the page clearly shows higher total expenses of early years for capital lease, thus leading to lower NI. Furthermore, CFI is not affected by capital lease, it’s CFO and CFF that get affected.

#15

The question is correct and the answer is C BUT the topic of the thread is NOT correct. This has nothing to do with leases. Its about expensing versus capitalising decision, NOT about operating versus capital leases. Undoubtedly answer is C!

#16

FisherSU Wrote: ------------------------------------------------------- > but we are talking about leases here, not > capitalizing interest. If you go back to page 523 > in FSA, the table on top of the page clearly shows > higher total expenses of early years for capital > lease, thus leading to lower NI. Furthermore, CFI > is not affected by capital lease, it’s CFO and CFF > that get affected. Corrent, CFI is only affected when you acquire an assets (and this happen when you capitalize interests).

#17

Exactly. If this were in fact related to operating vs. capital leases, then D would in fact be correct. However, where in the question does it say anything about leases?

#18

anupamjain008 Wrote: ------------------------------------------------------- > The question is correct and the answer is C BUT > the topic of the thread is NOT correct. This has > nothing to do with leases. > Its about expensing versus capitalising decision, > NOT about operating versus capital leases. > > Undoubtedly answer is C! Ooops!!! I was too fast to judge…quick thought, quick action. Sorry for the confusion guys and thank you Anupamjain008 for correcting me.

#19

not a lease question also, C