Question

Part A

On 1 July 2019, XYZ Ltd leased a machinery from ABC Ltd to be used to be used in the mining operations. The machinery cost XYZ Ltd $120 307, considered to be its fair value on that same day. The capital/finance lease agreement contained the following provisions:

The lease term is for 3 years, commencing on	1st July 2019
The lease is cancellable and with a 10 % charge of the leased asset’s fair value from the lessor
Annual lease payment, payable on 30 June each year	$40,000
Estimated useful life of machinery	4 years
Estimated residual value of the machinery at the end of useful life	$6,000
Bargain purchase option that La Ltd can exercise at the end of lease term	$15,000
Interest rate implicit in the lease	7%

REQUIRED:

1. Calculate the present value of lease payment.
2. Prepare the lease schedules for XYZ Ltd.
3. Prepare the journal entries in the records of XYZ Ltd only for the year ended 30 June 2020.

Part B

XYZ Ltd is a mining company and have been in the industry for last 20 years. Currently, it is concerned about the recent exploration and evaluation activities in a specific area which will cause significant damage to the surrounding environment. The state government of the where the area of interest is located has attached strict conditions to the exploration licence for that area. Those conditions require that XYZ Ltd return the environment to its original condition.

Required:

What would be implications of the above situation for XYZ Ltd’s financial statements?

Answer 1

Calculation of PV

Payment No.	Date	Payment in $	Discount rate@7%	Present value	Remarks
1	30-Jun-20	40,000	0.93458	37,383	Lease payment
2	30-Jun-21	40,000	0.87344	34,938	Lease payment
3	30-Jun-22	40,000	0.81630	32,652	Lease payment
3	30-Jun-22	15,000	0.81630	12,244	GRV
	Total	135,000		117,217

Lease Amortization schedule

Payment No.	Date	Opening balance of lease payable	Lease payment	Interest expense (opening balance * 7%)	Principal payment (lease payment - interest expense)	closing balance of lease payable (opening balance - principal payment-Interest payment)
1	30-Jun-20	117,217	40,000	8,205	31,795	85,422
2	30-Jun-21	85,422	40,000	5,980	34,020	51,402
3	30-Jun-22	51,402	40,000	3,598	51,402	-
	Total		120,000	17,783	117,217

Journal entries in books of XYZ Ltd. (Lessee)

Date	Journal entry	Dr.	Cr.
31-07-19	Machinery on lease	117,217
	To ABC Ltd.		117217
	(Being machinery taken on lease)
30-06-20	ABC Ltd.	31,795
	Finance charges	8,205
	To Bank		40,000
	(Being lease payment recorded)
30-06-20	Depreciation	27,804
	To Accumulated depreciation ((117217-6000)/4)		27,804
	(Being depreciation charged)
30-06-20	Income statement	36,009
	To Depreciation		27,804
	Finance charges		8,205
	(Being expense transferred to Income statement)