- CFA Exams
- CFA Exam: Level I 2021
- Study Session 8. Financial Reporting and Analysis (3)
- Reading 28. Non-current (Long-term) Liabilities
- Subject 8. Accounting and Reporting by the Lessee
CFA Practice Question
There are 520 practice questions for this study session.
CFA Practice Question
West Company leased a new machine from South Company on May 1, 2015 for 10 years with annual lease payments of $40,000 at the start of each lease year. The machine has an estimated useful life of 12 years. The appropriate discount rate to be used is 14% and the present value of $1 for 10 periods at 14% is 0.27. The present value of an annuity of $1 for 10 periods at 14% is 5.95. The lease contract included a residual value guarantee of $50,000. West should record a capitalized leased asset on their books of ______.
Correct Answer: A
Since it is guaranteed, the $50,000 residual value is discounted as a lump sum for 10 years at 14%. The $40,000 lease payment is an annuity that is discounted. The correct computation is [($50,000 * .27) + ($40,000 * 5.95)] = $13,500 + $238,000 or $251,500.
User Contributed Comments 11
|kalps||NB it is guaranteed so it will be paid at the end of teh period. If it was an option then you would look at the probability of exercising that option and make a conservative estimate|
|isida||the residual value guarantee is discounted as a lump sum|
|o123||** PV OF THE $1 ANNUITY IS NOT 5.95, ITS 5.216!!
Value of 40,000 annuity: N=10, i/y=14, pmt=40,000 CPT PV= 208,645
value of 50,000 Lump sum: N=10, i/y=14, FV=50,000 CPT PV= 13,487
BV; 13,487 + 208,645 = 222,132
|o123||Wow...sorry people I'm going to have to take back that last comment once again...and take my hat off to the people at AN aswell.
Just noticed the fine print: the lease payment is at the beginning of the period (Annuity Due)! so set your calc to the BGN mode and run the same calculations.
|quynhnk79||Great, you so responsible man! Thank you.|
|quanttrader||add PV of guarantee to PV of lease payment annuity.|
|thekobe||just make the calculation of the annuity and you get $238, but since you have to include the residual value, the answer should be greater, so your choice is A|
|johntan1979||If you used the TVM menu, the answer is $251,342 due to rounding differences.|
|gill15||Problem with this question is it say the PV of an annuity of 1 for 10 periods = 5.95. They should tell us if the PV value of the annuity of 5.95 pertains to an annuity due or immediate. I assumed the 5.95 was for immediate but its due.|
|Shaan23||With Lease payments at BOYear this is an annuity due. It does NOT state if 5.95 is for an anuity due or immediate. With first reading I would say it is Annuity immediate and needs to be converted.|