1. Receivable at December 31, 2011

Calculation of the present value of lease payments

$391,548 x 15.32380^ = $6,000,000

(rounded)

^ present value of an annuity due of $1: n=20, i=3%

Receivable

Initial balance, September 30, 2011 $6,000,000

Sept. 30, 2011 reduction (391,548)*

Dec. 31, 2011 reduction (223,294)**

December 31, 2011 receivable $5,385,158

The receivable replaces the $6,000,000 machine on the balance sheet.

2. Interest revenue for year ended December 31, 2011

Sept. 30, 2011 interest revenue $ 0*

Dec. 31, 2011 interest revenue 168,254**

Interest revenue for 2011 $168,254

3. Statement of cash flows for year ended December 31, 2011

Abbott would report the $6,000,000* direct financing lease of the protein analyzer as a significant noncash investing activity (acquiring one asset and disposing of another) in the disclosure notes to the financial statements.

The $783,096 ($391,548 x 2) cash lease payments are divided into the interest portion and the principal portion. The interest portion, $168,254**, is reported as cash inflows from operating activities. The principal portion, $391,548 + $223,294**, is reported as cash inflows from investing activities.

Note: By the indirect method of reporting cash flows from operating activities, the $168,254 interest revenue that increased net income actually did increase cash [the interest portion of the $783,096 ($391,548 x 2) cash lease payments], so no adjustment to net income is necessary.

Problem 15-6 (concluded)

Calculations:

September 30, 2011*

Lease receivable (present value calculated above) 6,000,000

Inventory of equipment (lessor’s cost) 6,000,000 Cash (lease payment) 391,548

Lease receivable 391,548

December 31, 2011**

Cash (lease payment) 391,548

Lease receivable (difference) 223,294

Interest revenue (3% x [$6,000,000 – 391,548]) 168,254

Problem 15-7

1. Calculation of the present value of lease payments (“selling price”)

$391,548 x 15.32380^ = $6,000,000

(rounded)

^ present value of an annuity due of $1: n=20, i=3%

2. Receivable at December 31, 2011

Receivable

Initial balance, September 30, 2011 $6,000,000

Sept. 30, 2011 reduction (391,548)*

Dec. 31, 2011 reduction (223,294)**

December 31, 2011 net liability $5,385,158

The receivable is reported as:

The receivable replaces the $5,000,000 machine in inventory in the balance sheet.

3. Income effect for year ended December 31, 2011

Sept. 30, 2011 interest revenue $ 0*

Dec. 31, 2011 interest revenue 168,254**

Interest revenue for 2011 $ 168,254

Sales revenue* 6,000,000

Cost of goods sold* (5,000,000)

Income effect $1,168,254

Problem 15-7 (continued)

4. Statement of cash flows for year ended December 31, 2011

NutraLabs would report the $6,000,000* sales-type lease of the protein analyzer as a significant noncash activity in the disclosure notes to the financial statements.

The $783,096 ($391,548 x 2) cash lease payments are considered to be cash flows from operating activities. A sales-type lease differs from a direct financing lease in that we assume the lessor is actually selling its product, an operating activity. Thus, both the interest portion, $168,254**, and the principal portion, $391,548 + $223,294**, are reported as cash inflows from operating activities.

Note: By the indirect method of reporting cash flows from operating activities, the $1,000,000 (Sales revenue: $6,000,000 – Cost of goods sold: $5,000,000) dealer’s profit must be deducted from net income because it is included in net income but won’t increase cash flows until the lease payments are collected over the next five years. This addition, however, occurs automatically as we make the usual adjustments for the change in receivables (to adjust sales to cash received from customers) and for the change in inventory (to adjust cost of goods sold to cash paid to suppliers).

The $168,254 interest revenue that increased net income actually did increase cash [the interest portion of the $783,096 ($391,548 x 2) cash lease payments], so for it, no adjustment to net income is necessary. The principal portion, $391,548 + $223,294, must be added because it is not otherwise included in net income. This, too, though, occurs automatically as we make the usual adjustments for the change in receivables (to adjust sales to cash received from customers).

Noncash adjustments to convert net income to cash flows from operating activities:

Increase in lease receivable ($6,000,000)

Decrease in inventory of equipment 5,000,000 Decrease in lease receivable, Sept. 30 391,548 Decrease in lease receivable, Dec. 31 223,294

Problem 15-7 (concluded)

Calculations:

September 30, 2011*

Lease receivable (present value calculated above) 6,000,000

Cost of goods sold (lessor’s cost) 5,000,000

Sales revenue (present value calculated above) 6,000,000

Inventory of equipment (lessor’s cost) 5,000,000 Cash (lease payment) 391,548

Lease receivable 391,548

December 31, 2011**

Cash (lease payment) 391,548

Lease receivable (difference) 223,294 Interest revenue (3% x [$6,000,000 – 391,548]) 168,254

Problem 15-8

Requirement 1