ASSIGNMENT

1. On December 31, 2018, Burke Corporation signed a 5-year, non-cancelable lease for a machine.
The terms of the lease called for Burke to make annual payments of $8,668 at the beginning of
each year, starting December 31, 2018. The machine has an estimated useful life of 6 years and
a $5,000 unguaranteed residual value. The machine reverts back to the lessor at the end of the
lease term. Burke uses the straight-line method of depreciation for all of its plant assets.
Burke's incremental borrowing rate is 5%, and the lessor's implicit rate is unknown.

Instructions
a. Compute the present value of the lease payments.

b. Prepare all necessary journal entries for Burke for this lease through December 31, 2019.

2. Delaney AG leases an automobile with a fair value of €10,000 from Simon Motors, on the
following terms.

1. Non-cancelable term of 50 months.

2. Rental of €200 per month (at the beginning of each month). (The present value at 0.5% per
month is €8,873.)
3. Delaney guarantees a residual value of €1,180 (the present value at 0.5% per month is €920).
Delaney expects the probable residual value to be €1,180 at the end of the lease term.
4. Estimated economic life of the automobile is 60 months.
5. Delaney's incremental borrowing rate is 6% a year (0.5% a month). Simon's implicit rate is
unknown.

Instructions
a. What is the present value of the lease payments to determine the lease liability?

b. Based on the original fact pattern, record the lease on Delaney's books at the date of
commencement.

c. Record the first month's lease payment (at commencement of the lease).

d. Record the second month's lease payment.

e. Record the first month's amortization on Delaney's books (assume straight-line).

f. Suppose that instead of €1,180, Delaney expects the residual value to be only €500 (the
guaranteed amount is still €1,180). How does the calculation of the present value of the lease
payments change from part Number 2b.?
3. Assume that on December 31, 2018, Stora Enso (FIN) signs a 10-year, non-cancelable lease
agreement to lease a storage building from Sheffield Storage. The following information
pertains to this lease agreement.

1. The agreement requires equal rental payments of €71,830 beginning on December 31, 2018.
2. The fair value of the building on December 31, 2018, is €525,176.
3. The building has an estimated economic life of 12 years, a guaranteed residual value of
€10,000, and an expected residual value of €7,000. Stora Enso depreciates similar buildings
using the straight-line method.
4. The lease is non-renewable. At the termination of the lease, the building reverts to the
lessor.
5. Stora Enso's incremental borrowing rate is 8% per year. The lessor's implicit rate is not
known by Stora Enso.

Instructions
a. Prepare the journal entries on the lessee's books to reflect the signing of the lease agreement
and to record the payments and expenses related to this lease for the years 2018, 2019, and
2020. Stora Enso's fiscal year-end is December 31.

b. Suppose the same facts as above, except that Stora Enso incurred legal fees resulting from
the execution of the lease of €5,000, and received a lease incentive from Sheffield to enter the
lease of €1,000. How would the initial measurement of the lease liability and right-of-use asset
be affected under this situation?

c. Suppose that in addition to the €71,830 annual rental payments, Stora Enso is also required
to pay €5,000 for insurance costs each year on the building directly to the lessor, Sheffield
Storage. How would this executory cost affect the initial measurement of the lease liability and
right-of-use asset?

d. Return to the original facts in the problem. Now suppose that, at the end of the lease term,
Stora Enso took good care of the asset and Sheffield agrees that the fair value of the asset is
actually €10,000. Record the entry for Stora Enso at the end of the lease to return control of the
storage building to Sheffield (assuming the accrual of interest on the lease liability has already
been made).