The Ellis Corporation has heavy lease commitments. Prior to SFAS No. 13 , it mer

Question

The Ellis Corporation has heavy lease commitments. Prior to SFAS No. 13, it merely footnoted lease obligations in the balance sheet, which appeared as follows: Use Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods.

  

  

The footnotes stated that the company had $12 million in annual capital lease obligations for the next 20 years.

  

Discount these annual lease obligations back to the present at a 8 percent discount rate. (Do not round intermediate calculations. Round your answer to the nearest million. Input your answer in millions of dollars (e.g., $6,100,000 should be input as "6").)

  

  

Construct a revised balance sheet that includes lease obligations. (Do not round intermediate calculations. Round your answers to the nearest million. Input your answer in millions of dollars (e.g., $6,100,000 should be input as "6").)

  

  

Compute the total debt to total asset ratio for the original and revised balance sheets. (Input your answers as a percent rounded to 2 decimal places.)

  

  

Compute the total debt to total equity ratio for the original and revised balance sheets. (Input your answers as a percent rounded to 2 decimal places.)

  

  

In an efficient capital market environment, should the consequences of SFAS No. 13, as viewed in the answers to parts c and d, change stock prices and credit ratings?

The Ellis Corporation has heavy lease commitments. Prior to SFAS No. 13, it merely footnoted lease obligations in the balance sheet, which appeared as follows: Use Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods.

Explanation / Answer

a. PV of lease obligations = 12million*PVIFA(8%, 20years) = 12,000,000*9.818 = $117,817,769

b.

c.  Total debt to total assets ratio = Total liabilities / Total Assets
Original = 50/120 = 0.42:1
Revised = 167.82/237.82 = 0.71:1

d. Total debt to total equity ratio = Total liabilities / Stockholders' equity
Original = 50/70 = 0.71:1
Revised = 167.82/70 = 2.40:1

e. YES, the consequences of SFAS No. 13, as viewed in the answers to parts c and d, will change the stock prices and credit ratings. The stock price and credit rating may fall due to worse position in Revised Balance Sheet.

Balance Sheet (In $ millions)   Current assets $60      Current liabilities $20      Fixed assets 60     Long-term liabilities 30     Leased property
   under capital lease 117.82     Obligations under
    capital lease 117.82     Total liabilities $167.82      Stockholders' equity 70     Total assets $237.82      Total liabilities and
   Stockholders' equity $237.82   

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