Question

Ayayai Corporation is considering proposals for either leasing or purchasing aircraft. The proposed lease agreement involves a twin-engine turboprop Viking that has a fair value of $925,000. This plane would be leased for a period of 9 years beginning January 1, 2017. The lease agreement is cancelable only upon accidental destruction of the plane. An annual lease payment of $141,405 is due on January 1 of each year; the first payment is to be made on January 1, 2017. Maintenance operations are strictly scheduled by the lessor, and Ayayai Corporation will pay for these services as they are performed. Estimated annual maintenance costs are $7,200. The lessor will pay all insurance premiums and local property taxes, which amount to a combined total of $4,300 annually and are included in the annual lease payment of $141,405. Upon expiration of the 9-year lease, Ayayai Corporation can purchase the Viking for $44,740. The estimated useful life of the plane is 15 years, and its salvage value in the used plane market is estimated to be $100,000 after 9 years. The salvage value probably will never be less than $78,000 if the engines are overhauled and maintained as prescribed by the manufacturer. If the purchase option is not exercised, possession of the plane will revert to the lessor, and there is no provision for renewing the lease agreement beyond its termination on December 31, 2026.

Ayayai Corporation can borrow $925,000 under a 9-year term loan agreement at an annual interest rate of 12%. The lessor’s implicit interest rate is not expressly stated in the lease agreement, but this rate appears to be approximately 8% based on 10 net rental payments of $137,105 per year and the initial fair value of $925,000 for the plane. On January 1, 2017, the present value of all net rental payments and the purchase option of $44,740 is $836,263 using the 12% interest rate. The present value of all net rental payments and the $44,740 purchase option on January 1, 2017, is $949,170 using the 8% interest rate implicit in the lease agreement. The financial vice president of Ayayai Corporation has established that this lease agreement is a capital lease as defined in GAAP.

What is the appropriate amount that Ayayai Corporation should recognize for the leased aircraft on its balance sheet after the lease is signed?

Amount for the leased aircraft

$

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Without prejudice to your answer in part (a), assume that the annual lease payment is $141,405 as stated in the question, that the appropriate capitalized amount for the leased aircraft is $925,000 on January 1, 2017, and that the interest rate is 9%. How will the lease be reported in the December 31, 2017, balance sheet and related income statement? (Ignore any income tax implications.) (Round answers to 0 decimal places, e.g. 12,501.)

Ayayai Corporation Partial Balance sheet                                                                       December 31, 2017For the Year Ended December 31, 2017For the Quarter Ended December 31, 2017
Current LiabilitiesExpensesIntangible AssetsNoncurrent AssetsNoncurrent LiabilitiesLong-term LiabilitiesPaid-in CapitalProperty, Plant and EquipmentRevenuesStockholders' EquityTotal AssetsTotal Current AssetsTotal Noncurrent LiabilitiesTotal ExpensesTotal Intangible AssetsTotal LiabilitiesTotal Liabilities and Stockholders' EquityTotal Long-term InvestmentsTotal Long-term LiabilitiesTotal Paid-in CapitalTotal Property, Plant and EquipmentTotal RevenuesTotal Stockholders' Equity
		$
AddLess:
		$
Current LiabilitiesExpensesIntangible AssetsNoncurrent AssetsNoncurrent LiabilitiesLong-term LiabilitiesPaid-in CapitalProperty, Plant and EquipmentRevenuesStockholders' EquityTotal AssetsTotal Current AssetsTotal Noncurrent LiabilitiesTotal ExpensesTotal Intangible AssetsTotal LiabilitiesTotal Liabilities and Stockholders' EquityTotal Long-term InvestmentsTotal Long-term LiabilitiesTotal Paid-in CapitalTotal Property, Plant and EquipmentTotal RevenuesTotal Stockholders' Equity
		$
		$
Current LiabilitiesExpensesIntangible AssetsNoncurrent AssetsNoncurrent LiabilitiesLong-term LiabilitiesPaid-in CapitalProperty, Plant and EquipmentRevenuesStockholders' EquityTotal AssetsTotal Current AssetsTotal Noncurrent LiabilitiesTotal ExpensesTotal Intangible AssetsTotal LiabilitiesTotal Liabilities and Stockholders' EquityTotal Long-term InvestmentsTotal Long-term LiabilitiesTotal Paid-in CapitalTotal Property, Plant and EquipmentTotal RevenuesTotal Stockholders' Equity
		$

Ayayai Corporation Income Statement                                                                       December 31, 2017For the Year Ended December 31, 2017For the Quarter Ended December 31, 2017
	$

Answer 1

Part 1

What is the appropriate amount that Ayayai Corporation should recognize for the leased aircraft on its balance sheet after the lease is signed?

Amount Of Lease Aircraft

$844,342

Refer below explanation.

Explanation,

1.Capital Lease is the lease that transfer substantially all risk and reward of incident to ownership of asset.

2.At the inception of Lease, the lessee Should recognize the lease as an asset and liability.

3.Such recognition should be at an amount equal to the fair value of the leased asset at the inception of lease.

4.however if the fair value of leased asset exceed the present value of minimum lease payment from the stand point of lessee, the amount recorded as asset and liability should be the present value of the minimum lease payments from the stand point of lessee.

5.In Present case Fair of of leased asset is $925,000 Where as Present value of minimum lease payment is $844,342.

6.Calculation of present value of Lease payments

Year	Description	Amount	DF@8%	DCF
1-9	Lease Payment	$137,105	5.9952	$821,972
9	Optional Purchase price	$44740	.5002	$22,370
	Net Present value			$844,342.

Therefore capital lease should be recognized $844,342.

Part B

Balance Sheet as on 31 Dec 2017.

Sr.No.	Description	Amount
A	Non Current Liabilities
	Lease Asset Liability	$925,000
	Less:Reduction in Liability	$58,155
	Balance as on 31.12.2017	$866,845
B	Non Current asset
	Tangible assets
	Property,Plant & Equipments
	Leased Machinery	$925000
	Less:Depreciation($925,000-$100,000/9 Years)	$91667
	Balance	$733,333

Income Statement

Lease Interest Expenses($925,000*9%) $83,250

Depreciation $91,667.

Thank You.