Instructions: Use a spreadsheet such as Excel to answer requirements A-E below. Then write your comments to answer requirement F. Print your results to parts A-E, and then on a separate page print the formulas. The answer to part F may be handwritten.
Bristol Company leased machinery from Harvard Leasing Company on January 1, 2010. The non- cancellable lease term is 4 years. The following data relate to this lease:
Harvard purchased the equipment for $363,950 at a cost equal to its fair market value.
The economic life of the machinery is 6 years with no salvage value at the end of 6 years.
Payments are on January 1 of each year starting in 2010 (an annuity due)
The annual rental payment is $100,000 which includes $8,000 per year to cover executory
costs paid by Harvard Leasing. (i.e. the minimum lease payment is $92,000)
At the end of the lease term the equipment will be returned to Harvard Leasing with an
estimated residual value of $40,000.
Bristol's incremental borrowing rate per year is 10%
Future costs associated with this lease are completely predictable and no uncertainties exist
about collectability of the lease payments.
Required:
A. Use column A for descriptive titles. Use column B to enter data and formulas.
In rows 2-5 enter as data: the fair market value of the leased machinery, the minimum lease payment, the residual value, and the number of years in the lease term. In row 6 Paste the RATE function and refer to the data in rows 2-5 as arguments. The residual value is "FV". The present value is the fair market value of the equipment multiplied by -1 (to make it an outflow of cash). Enter "1" for the annuity due type. Format the result as a % to two decimal places.
B. Develop an amortization table for Bristol similar to the Table shown below assuming that the residual value is guaranteed and that Bristol knows Harvard's implicit interest rate.
Rental Executory Minimum
Date ------- Rental Payment -------- Executory Cost in Rent -------- Minimum Lease payment ----- Interest ------- Amortization ------- Present value
C. Develop a capital vs. operating leasing schedule similar to illustration 21-8 shown in your textbook starting with the year 2010. Note that the guaranteed residual value is like a salvage value for the depreciation part. Straight-line depreciation should be used.
D. Develop an amortization table for Harvard Leasing Co. similar to Part B above. If it is the same amortization schedule you can refer to the amortization schedule in B
E. Now assume that the residual value is not guaranteed by Bristol Company and also that Bristol does not know Harvard's implicit interest rate. Perform the 90% test for Harvard and for Bristol. Use the PV function to calculate the present value of the minimum lease payments for both parties. Divide the present value by the fair market value of the equipment and report your results as percentages.
F. Comment on your results in part E.
Hint: check figures
A. Implicit Rate
Cost & Fair Value of Equipment 363,950
Minimum Lease Payment 92,000
Estimated Residual Value 40,000
Term of Lease 4
Implicit rate (annuity due) 7.00%