Deck 16: Leasing

Question 1

The Quebeclease Company offers La Presse a lease on a large printing press.The current value of the printing press is $50,000, and it is expected to have a market value of $30,000 in five years.The annual lease payments are $8,000 per year, due at the beginning of each of the next five years.At the end of the lease, La Presse has the right to buy the printing press for $5,000.This is an example of:
I.an operating lease
II.a financial lease
III.a sale and leaseback agreement

A)I only
B)II only
C)I and II only
D)II and III only

Answer 1

II only

Question 2

The lease that is most like a rental agreement is:

A)a capital lease
B)a financial lease
C)an equipment lease
D)an operating lease

Answer 2

an operating lease

Question 3

Which of the following will NOT be impacted by the new IFRS requirements regarding leases that came into effect on January 1, 2019?

A)Size of the balance sheet
B)Financial ratios
C)Net income
D)Total cash flows

Answer 3

Total cash flows

Question 4

Before 1989, what was the benefit of the sale and leaseback agreement?

A)A loophole in the tax laws
B)An illegal transfer of costs between lessee and lessor
C)A mutual benefit between companies in different countries
D)None of the above

Question 5

Frank owns a large dump truck.Charles offers to pay Frank $1,500 per month for 36 months' use of the truck.If Frank accepts the offer, then:

A)Frank is the lessee and Charles is the lessor
B)Frank is the lessor and Charles is the lessee
C)Frank and Charles are lessors
D)Frank and Charles are lessees

Question 6

In an operating lease, the ______ holds title to the asset.

A)lessee
B)lessor
C)supplier
D)a or b

Question 7

Under ASPE criteria, which of the following are characteristics of financial or capital leases?
I.The lease term is equal to 75 percent or more of the economic life of the leased property.
II.The present value of the minimum lease payments is equal to 70 percent or more of the fair value of the leased property at the inception of the lease.
III.Provisions are made such that ownership of the leased property is transferred to the lessee at the end of the lease term.

A)I and II
B)II and III
C)I and III
D)I, II and III

Question 8

All of the following must be included on a company's balance sheet except:

A)capital leases
B)sale and leaseback agreements
C)leases less than 12 months long
D)leveraged leases

Question 9

Leasing, and its respective effects on the firm, is very similar to ______ financing.

A)equity
B)debt
C)guaranteed
D)trade

Question 10

Under U.S.GAAP, compared with an operating lease, a financial lease will have:

A)lower cash flow from operations (CFO)and higher cash flow from financing (CFF)
B)higher CFO and lower CFF
C)higher CFO and higher CFF
D)the same CFO and CFF

Question 11

Under U.S.GAAP, compared with a financial lease, an operating lease will be associated with:

A)higher earnings per share
B)lower earnings per share
C)no difference in earnings per share
D)impact on earnings per share cannot be determined as operating leases are off-balance sheet items

Question 12

RonCo Company is considering a recycling project.The project will result in a significant decrease in their garbage disposal costs.The acquisition cost of the recycling machine is $100,000.The present value of the depreciation tax shield (CCA)is $35,000 and the machine is expected to have a zero salvage value.The firm can lease the machine instead of buying it - the present value of the before-tax lease payments is $60,000 and the present value of the tax savings from the lease payments is $20,000.Should the firm lease the recycling machine and why or why not?

A)Yes, the net NPV of leasing is $60,000.
B)Yes, the net NPV of leasing is $25,000.
C)No, the net NPV of leasing is −$40,000.
D)No, the net NPV of leasing is −$175,000.

Question 13

Use the following statements to answer this question:
I.Leverage leasing does not provide the same benefits to the lessor in Canada as it does in the U.S.
II.In Canada, lessors can only deduct depreciation on leased assets against the income derived from leasing.

A)I and II are correct.
B)I and II are incorrect.
C)I is correct and II is incorrect.
D)I is incorrect and II is correct.

Question 14

Prior to January 2019, operating leases were:

A)a form of off-balance-sheet financing
B)included only in the notes to financial statements
C)regarded as misleading with respect to an entity's true obligations
D)all of the above

Question 15

Considerations arising from changes in accounting standards with respect to leasing include:

A)Leases formerly classified as operating leases that were not reported on the balance sheet will now be reported as a liability on the balance sheet.
B)Impact on calculation of "non-GAAP" measures such as EBIT and EBITDA.
C)Differences between U.S.GAAP and IFRS.
D)All of the above.

Question 16

You are the CFO of a company.You are considering leasing photocopiers from the manufacturer instead of purchasing them for $200,000.You can borrow at 9.0% and the corporate tax rate is 35.0%.The lease payment will be $50,000 each year for 5 years, beginning immediately.At the end of the 5 years, the photocopiers will be worthless.Assume that the photocopiers can be depreciated by $40,000 per year for 5 years, for tax purposes.Should the firm lease the photocopiers?

A)Yes, the IRR of the lease incremental cash flows is greater than the after-tax cost of borrowing.
B)No, the IRR of the lease incremental cash flows is less than the after-tax cost of borrowing.
C)Yes, the IRR of the lease incremental cash flows is less than the after-tax cost of borrowing.
D)No, the IRR of the lease incremental cash flows is greater than the after-tax cost of borrowing.

Question 17

Asset-based lending is:

A)based on an underlying asset that serves as collateral in the event of default
B)financing that is tied directly to a particular asset
C)a and b
D)none of the above

Question 18

Air Canada sold an airplane and used the proceeds to improve its financial position.It then leased the airplane back in order to continue the use of the asset.This is an example of:

A)a leveraged lease
B)a short-term lease
C)a sale and leaseback
D)an operating lease

Question 19

Which of the following is/are true about operating leases?
I.The lease is generally for a short duration.
II.The lessee is required to provide maintenance for the asset.
III.The lessee assumes any risk of obsolescence.

A)I only
B)II and III
C)I and III
D)I and II

Question 20

Which of the following is false about a sale and leaseback arrangement?

A)The lessee obtains the use of an asset not previously owned.
B)The lessee sells an asset to a financial institution, which then leases the asset back to the lessee.
C)The lessor purchases the asset.
D)The lessor is permitted to deduct CCA on the leased asset for income tax purposes.

Question 21

What are the possible limitations to the idea that the value of the firm is immune to leasing?

Question 22

A firm is considering leasing a printing machine.The lease lasts for 3 years.The lease calls for 3 payments of $4,000 per year with the first payment occurring immediately.The machine would cost $7,500 to buy and would be straight-line depreciated (tax purpose)to zero salvage value over 3 years.The firm can borrow at 5%, and has a corporate tax rate is 30%.What is the NPV of the lease?

A)$1,482
B)- $2,838
C)- $654
D)- $1,552
E)None of the above

Question 23

Which of the following are reasons for leasing from the lessee's point of view?

A)Lower borrowing cost
B)Convenience and flexibility
C)The lessor maintains the leased asset
D)All of the above

Question 24

A company is given the option of entering into a five-year, $20,000 financial lease arrangement that calls for prepaid monthly payments based on a 5.0% lease rate, or borrowing $20,000 through a five-year loan that calls for end-of-month payments based on a 5.4% lending rate.Ignoring any tax consequences, what is the NPV of the lease?

A)$275.11
B)$192.92
C)$186.27
D)$0

Question 25

You are the manager of a sales division, and are considering leasing a fleet of cars for your staff.You can buy the cars for $300,000 or you can lease them for 8 years at $60,000 per year with payments due at end of each year.The company has a tax rate of 40.0% and a CCA rate of 10.0% on vehicles.If the company buys the cars and finances the purchase with a loan, they will pay 7.0% in interest.Assume that after the term of the lease is over, the salvage value of the cars will be zero.What is the NPV of the lease, based on accelerated investment incentive for CCA in the first year?

A)$213,790
B)-$26,600
C)-$23,194
D)-$240,390

Question 26

Which of the following is not a reason for leasing?

A)Leasing provides the lessor with insurance against obsolescence.
B)Leasing can reduce taxable income.
C)Leasing reduces the risk of asset ownership for lessee.
D)A company can obtain financing easier because the leasing company retains title to the asset.

Question 27

You are a bank manager and are evaluating the financial statements of one of your corporate clients.You notice the size of the balance sheet to be larger because of IFRS changes with respect to leasing.Does that mean the corporation is now worth more?

Question 28

Your company requires a new truck to expand its delivery range.The cost of this truck is $38,000.The life of this asset should be 6 years with a $5,500 salvage value.Inquiries to a few banks have shown that a loan for the full amount is available with a yearly interest payment of 14%.Another option is to add this asset to the lease you already have.The leasing company has told you it will purchase the truck and lease it to you for an initial payment of $8,300 and an annual payment of $8,300 at the beginning of each of the next 6 years (a total of 7 payments).The company's tax rate is 38%, and the CCA rate of the asset pool of the truck is 20% with half-year rule applicable in the first year.
a)Will you proceed with the lease or buy the asset?

Question 29

You are the manager of a sales division, and are considering leasing a fleet of cars for your staff.You can buy the cars for $300,000 or you can lease them for 8 years at $60,000 per year with payments due at end of each year.The company has a tax rate of 40.0% and a CCA rate of 10.0% on vehicles.If the company buys the cars and finances the purchase with a loan, they will pay 7.0% in interest.Assume that after the term of the lease is over, the salvage value of the cars will be zero.What is the NPV of the lease, based on half-year rule for CCA in the first year?

A)$217,196
B)$59,610
C)-$23,194
D)-$240,390

Question 30

The CFO of Alberta Country Record Company has decided to use leases because this will result in the firm reporting higher net income and lower debt ratios.He feels this will reduce the cost of debt for the firm thereby increasing the value of the firm.If the market is efficient then his statement

A)is a valid reason to use leases.
B)is not a valid reason to use leases.
C)is incorrect as the firm's cash flows and associated risks are unaffected.
D)b & c.

Question 31

The lease term is four years, while the economic life of the asset is five years.The annual lease payment is $10,000 at the beginning of each year, and the appropriate discount rate is 7.0%.There is no salvage value at the end of the lease.The lessee uses the straight-line depreciation method for both accounting and tax purposes.
a)Estimate the fair market value of the asset.
b)Estimate the change in NI, CFO, and CFF at the end of the first year if a firm decides to enter into the lease agreement.

Question 32

Frank has just started his first business-a snow removal company.In order for his business to be successful, he will need three large industrial-strength snow blowers.Each snow blower will cost $30,000.Provide three advantages leasing offers this small business.

Question 33

Which one of the following can be associated with the cheap financing motivation of leasing?

A)Interest rates are fixed for the period of the lease.
B)No maintenance costs.
C)Reduce risk of holding the asset.
D)All of the above

Question 34

All of the following are reasons for leasing except:

A)Companies with a weak credit rating can obtain financing because the lessor retains title to the asset.
B)Payments on a lease are fixed which removes an additional element of uncertainty.
C)The terms offered under a lease may be more attractive than those a customer could get under a comparable loan.
D)Some leases can be off-balance-sheet.