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On 1 April 2007, Fino increased the operating capacity of its plant. Due to a lack of liquid funds it was unable
to buy the required plant which had a cost of $350,000. On the recommendation of the finance director, Fino
entered into an agreement to lease the plant from the manufacturer. The lease required four annual payments in
advance of $100,000 each commencing on 1 April 2007. The plant would have a useful life of four years and
would be scrapped at the end of this period. The finance director, believing the lease to be an operating lease,
commented that the agreement would improve the company’s return on capital employed (compared to outright
purchase of the plant).
Required:
Prepare extracts of Fino’s income statement and balance sheet for the year ended 30 September 2007
in respect of the rental agreement assuming:
(1) It is a finance lease (use an implicit interest rate of 10% per annum)…..It is question 4 in december 07 paper… I don’t understand why in non current liabilities $75000 was substracted from $250000 and why in current liabilities the lease obligation is $75000….BADLY NEED SOME HELP ON IT PLEASE!!!!
Because $75,000 is the present value of the capital amount to be paid on 1 April 2008 – ie it’s a current liability, whereas the $175,000 is payable more than one year away and is therefore long term
Why does the non-current lease obligation at 30.9.X7 not include the accrued interest for the six months between 1.4.X8 and 30.9.X8? I had expected that the non-current lease obligation at 30.09.X7 is equal to the total lease obligation at 30.09.X8 which should include further accrued interest of 8,750 = (175,000 * 10%*6/12). Thanks for the answer.
No, the interest has not yet accrued. Interest for the period 1 April 2008 to 30 september 2008 is surely a finance charge relating to 2008! If we were to pursue your line of reasoning, why do we not include ALL the interest not yet paid on the entire contract?
Theory suggests that, were we to win the lottery, we could approach the finance lease lessor on 31 March 2008 and say “Here’s the rest of the money I owe you” If that were to happen, we would not then incur the interest in the period 1 April 2008 to 30 September 2008
Thanks for the answer. I understand this reasoning. But, based on your reasoning, why has the interest from 1st Oct.2007 to 31 March 2008 been accrued then? If we’d win the lottery on 1Oct 2007 and pay the lessor immediately, we also wouldn’t have accrued the interest from 1st Oct 2007 to 31 March 2008, either. I would appreciate if you could clarify again which interest I have to include in the calculation of the current and non-current part of obligations. Thanks a lot.
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