Lehman Dairy leases its milking equipment from Chavez Finance Company under the following lease terms. The lease
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Question:
Lehman Dairy leases its milking equipment from Chavez Finance Company under the following lease terms.
The lease term is years, noncancelable, and requires equal rental payments due at the beginning of each year starting January
The equipment has a fair value of $ and cost Chavez $ at the inception of the lease January
Lehman Dairy has the option to purchase the equipment for $ This represents a significant discount on the equipment.
The estimated economic life of the equipment is years, and a residual value which is guaranteed by Lehman Dairy of $ If the purchase option is not exercised, Lehman Dairy expects to pay $ under the guaranteed residual value.
The lease contains no renewable options, and the equipment reverts to Chavez Finance Company upon termination of the lease, if the purchase option is not exercised.
Lehman Dairys incremental borrowing rate is per year. Chavezs implicit rate is and is known to Lehman Dairy.
Collectability of the payments is reasonably predictable, and there are no important uncertainties surrounding the costs yet to be incurred by the lessor.
Present value of for periods at
Present value of for periods at
Present value of an ordinary annuity for periods at
Present value of an ordinary annuity for periods at
Present value of an annuity due for periods at
Present value of an annuity due for periods at
Instructions
Assume the accounting period ends on December
a Calculate the required payment Chavez Finance requires to earn the Fair Value of the asset, using the LESSEES Borrowing Rate?
b Lehman Dairy is able to negotiate the payment down to $ per year. Compute the present value of the minimum lease payments for both the lessee and lessor.
c What type of lease is this for the lessor? For the lessee? Why?
d Prepare the journal entries Chavez would make in related to the lease arrangement.
e Prepare the journal entries Lehman would make in related to the lease arrangement.
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