Capital Budgeting

Leases are contracts between the lessor (owner) and the lessee (client) to use an asset for a specified period of time in exchange for rental payments over the term of the lease.  For many companies leasing an asset verses owning has distinct advantages. Leasing offers companies the option of financing at fixed rates and flexibility giving them financial stability, cheaper rates, and the option of short or long-term leases; it allows the lessee to upgrade the asset so they can remain competitive in the market; it offers tax advantages reducing their taxes and leasing offers off-balance sheet financing which doesn’t increase their debt thus aiding in the potential for future borrowing. (Kieso et al., 2016, P.1198)

The difference between operating lease and sales-type lease is that in sales type lease the lessor sets a selling price above the asset cost, thus recognizing an immediate profit at the inception of the lease. Whereas, in operating lease income recognized using a straight-line basis over the life of the lease. Income would be spread out further on a sale-type lease thus spreading out the tax liability over the period of time. Therefore it would be beneficial for Sable Inc. to record the lease of bulldozer as sales type

The US accounting standards under Financial Accounting Standard 13 classified leases into Capital and Operating Leases. While Capital Leases transferred the lessee substantially all the risks and rewards incidental to ownership of the leases asset, it had to follow the criterion:

Today, the municipal bond market holds nearly $3.7 trillion in principal outstanding from over one million unique issues. This debt primarily finances public projects for the 46,000 local and state government issuers participating in the market. Unfortunately, exemptions for disclosure requirements as well as an ineffective regulatory structure cultivated a municipal bond market that, unlike the corporate equity market, remains opaque.

Since there is no ownership involved, operating leases offer a great deal of flexibility. For example, a small business doesn't need to worry about equipment becoming obsolete. A company can simply lease newer equipment. The ability to directly expense leasing costs provides some accounting benefit. When a company owns an asset, accounting rules dictate that the property, plant or equipment must be depreciated and held on the balance sheet for the asset's useful life. In effect, this ties up the company's cash flow and leverages the company to financiers. Operating leases are not subject to these constraints.

One of the biggest components of the income statement, expenses, is actually accounted for differently between the two types of leases. Operating leases will follow straight-line expense of the lease expense. On the other hand, finance leases will result in front-loaded expenses, which is when companies prefer to take on more expense in the early life of the lease for future higher net income and tax benefits (Lease accounting: The long-awaited). Finance leases also deal with two types of expenses: amortization of right-of-use assets and interest expense on lease liability (Leases – Issues In-Depth). Since our company engages in both types of leases, it is important that our employees fairly report the changes to the financials.

Every project has its own financing plan. It may include both debt and equity; it all depends on the availability and cost of capital. Both the debt and equity sources of capital have their own advantages and

In an attempt to fix balance sheet loopholes, FASB recently released new accounting standards involving business leases. The old standards had two types of leases, capital and operating leases. If a company used operating leases, the lease was expensed through rent expense. Future commitments of an operating lease would be reported in the footnotes of the financial statements. No asset or liability was created. Under the new standards, essentially the same two types exist, but capital leases are now called finance leases. Finance leases are accounted for the same exact way as the old capital leases. The asset and liability for the lease is recognized, and payments on the lease are allocated through amortization and interest expense. Under the new standard, operating leases now must also recognize an asset and a liability on the balance sheet (Ausburn). The new lease standard will negatively affect companies such as IBM because investors will become turned away from investing in companies that currently have large operating leases.

We can distinguish leases either financial or operational. In existing lease accounting practices, we treat financial leases similar to purchase with cash or on account. On the other hand operational leases do not recognised as an asset in the books of the business but we do deduct lease payments as an expense and it showed up in the income statement. Over the time, the use of operating income increased so much that the academician, regulators and practitioners raised concerns to potential opportunistic use of it by businesses (Altamuro, Johnston, Pandit and Zhang, 2014). In general companies who use operating lease ends up with improved return on assets and debt to equity ratio and therefore better solidity comparing to the companies who do not use operating leases, instead they use

If Corporation X wants to build a new plant for $1 million it might be better for everyone to issue bonds to finance it. If the firm issues 1,000 bonds for $1,000.00 each it can build the plant. Maybe Corporation X has poor credit and must pay 15% for a 3 year bond. If the plant is expected to produce $1 million of extra revenue per year, this is a bargain. It may take a year to build the plant and get it running. However, if the revenue from a year two can retire the debt entirely, it is mutually beneficial for everyone.

Aswath noted that firms with increasing operating lease expense over time would have a net capital expenditure reflecting this growth. Therefore, the changes of the standards will have a profound impact on the lessees. It is important to realize that the new theoretical change will increase transparency. On that note, it will be prudent for a firm to have a longer lease-term than a one-year lease. With these few factors in consideration, lessees behavior may change desiring to shorter-lease terms of other factors that may be of benefit to them and avoid complications associated with lease accounting.

When a firm is accounting for leases, an operating lease records no asset or liability on the financial statements. This means that the amount paid is expensed as it is acquired. On the opposite spectrum, a capital lease is recorded simultaneously an asset and a liability on the financial statements and normally at

The current FASB accounting standard for leases, based on an ownership model, is noted as one of the clearest examples of a “dysfunctional accounting standard” (Biondi, Bloomfield, Glover, Jamal, Ohlson, Penman, Tsujiyama, & Wilks, 2011). The current standard uses a rules-based approach which has led to widespread nonconformity with standard creators’ intent to have lease contracts reported on the balance sheet. There is even evidence that suggests the lessees classify their leases as operating with the sole purpose of avoiding showing them as an asset and liability on their balance sheet (Ong, 2011). The proposed changes to lease accounting would require companies to recognize assets and liabilities for most leases and has the potential to improve the quality and comparability of the financial statements. Aside from the improvement for financial statement users, this change to lease accounting will greatly impact the financial positions and financial

A bond is a form of debt in which you loan your money to a company, city, or government and in return they agree to return the money to you after an agreed upon time, with payments of interest to you while they hold your money (Wall Street Journal, 2015). There are many different kinds of bonds, and they are sold to fund various different projects. Bonds are seen as a safe investment and also offer investors a steady stream of income from the interest payments. Although this may be the case for some bonds, it isn’t the case for all bonds that are issued. This is where the bond ratings system comes into play. Bond rating is a system used to provide investors with an idea of the risk they are taking

Thus a bond is a form of loan or IOU: the holder of the bond is the lender (creditor), the issuer of the bond is the borrower (debtor), and the coupon is the interest. Bonds provide the