Solution E20.4 (LO2, 4) Lessee Entries, Finance Lease and Unguaranteed Residual Value
Assume that on December 31, 2024, Kimberly-Clark Corp. signs a 10-year, noncancelable lease
agreement to lease a storage building from Sheffield Storage Company. The following
information pertains to this lease agreement.
1. The agreement requires equal rental payments beginning on December
31, 2024. $ 71,830
2. The fair value of the building on December 31, 2024 $ 525,176
3. Estimated economic life of the building in years 12
Guaranteed residual value of the building $ 10,000
Expected residual value $ 7,000
Kimberly-Clark depreciates similar buildings on the straight-line method.
4. The lease is nonrenewable. At the termination of the lease, the building reverts to
the lessor.
5. Kimberly-Clark's annual incremental borrowing rate 8%
Lessor's implicit rate is not known by Kimberly-Clark.
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
2024, 2025, and 2026. Kimberly-Clark’s fiscal year-end is December 31.
b. Suppose the same facts as above, except that the lease specified the following additional
items:
Incurred legal fees resulting from the execution of the lease $ 5,000
Received a lease incentive from Sheffield to enter the lease 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, Kimberly-Clark is also
required to pay the following directly to the lessor, Sheffield Storage:
Annual payment for insurance costs on the building $ 5,000
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, Kimberly-Clark took good care of the asset and Sheffield agrees that the fair value
of the asset is actually $10,000. Record the entry for Kimberly-Clark 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).
NOTE: Enter a formula, a cell reference, or a value (if you are unable to reference a cell), into
the yellow shaded input cells. Amounts may differ from the solutions manual due to rounding
resulting from more precise calculations in Excel.
,NOTE: Enter a formula, a cell reference, or a value (if you are unable to reference a cell), into
the yellow shaded input cells. Amounts may differ from the solutions manual due to rounding
resulting from more precise calculations in Excel.
a. Amount to be capitalized includes:
Present value of minimum lease payments using Excel's PV function:
Lease liability
Lease Amortization Schedule
Annual Reduction
Lease Interest (8%) of Lease
Date Payment on Liability Lease Liability Liability
Debit Credit
12/31/24
12/31/24
12/31/25
12/31/25
12/31/26
12/31/26
, b. Calculation of the right-of-use asset:
Lease liability $ -
Lease incentive (1,000)
Legal fees 5,000
Right-of-use asset $ 4,000
Initial direct costs and lease incentives do not affect the initial measurement of the lease
liability. Instead, they only affect the measurement of the right-of-use asset. Initial direct
costs incurred by the lessee increase the right-of-use asset, whereas a lease incentive
decreases the value of the right-of-use asset.
c. Present value of minimum lease payments using Excel's PV function:
0 $ -
0 -
Annual insurance payment 36,234
Lease liability $ 36,234
The annual insurance payments of $5,000 are considered part of the annual payments to
the lessor similar to the rental payments, as they do not transfer a separate good or
service to the lessee, but rather are part of the payment to use the leased asset and are
attributable to the lease component. Therefore, the present value of the $5,000 annual
payments should be included in the initial measurement of the lease liability, and thus the
right-of-use asset as well.
d. 12/31/29 Lease Liability 3,000
Gain on lease 3,000
Assume that on December 31, 2024, Kimberly-Clark Corp. signs a 10-year, noncancelable lease
agreement to lease a storage building from Sheffield Storage Company. The following
information pertains to this lease agreement.
1. The agreement requires equal rental payments beginning on December
31, 2024. $ 71,830
2. The fair value of the building on December 31, 2024 $ 525,176
3. Estimated economic life of the building in years 12
Guaranteed residual value of the building $ 10,000
Expected residual value $ 7,000
Kimberly-Clark depreciates similar buildings on the straight-line method.
4. The lease is nonrenewable. At the termination of the lease, the building reverts to
the lessor.
5. Kimberly-Clark's annual incremental borrowing rate 8%
Lessor's implicit rate is not known by Kimberly-Clark.
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
2024, 2025, and 2026. Kimberly-Clark’s fiscal year-end is December 31.
b. Suppose the same facts as above, except that the lease specified the following additional
items:
Incurred legal fees resulting from the execution of the lease $ 5,000
Received a lease incentive from Sheffield to enter the lease 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, Kimberly-Clark is also
required to pay the following directly to the lessor, Sheffield Storage:
Annual payment for insurance costs on the building $ 5,000
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, Kimberly-Clark took good care of the asset and Sheffield agrees that the fair value
of the asset is actually $10,000. Record the entry for Kimberly-Clark 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).
NOTE: Enter a formula, a cell reference, or a value (if you are unable to reference a cell), into
the yellow shaded input cells. Amounts may differ from the solutions manual due to rounding
resulting from more precise calculations in Excel.
,NOTE: Enter a formula, a cell reference, or a value (if you are unable to reference a cell), into
the yellow shaded input cells. Amounts may differ from the solutions manual due to rounding
resulting from more precise calculations in Excel.
a. Amount to be capitalized includes:
Present value of minimum lease payments using Excel's PV function:
Lease liability
Lease Amortization Schedule
Annual Reduction
Lease Interest (8%) of Lease
Date Payment on Liability Lease Liability Liability
Debit Credit
12/31/24
12/31/24
12/31/25
12/31/25
12/31/26
12/31/26
, b. Calculation of the right-of-use asset:
Lease liability $ -
Lease incentive (1,000)
Legal fees 5,000
Right-of-use asset $ 4,000
Initial direct costs and lease incentives do not affect the initial measurement of the lease
liability. Instead, they only affect the measurement of the right-of-use asset. Initial direct
costs incurred by the lessee increase the right-of-use asset, whereas a lease incentive
decreases the value of the right-of-use asset.
c. Present value of minimum lease payments using Excel's PV function:
0 $ -
0 -
Annual insurance payment 36,234
Lease liability $ 36,234
The annual insurance payments of $5,000 are considered part of the annual payments to
the lessor similar to the rental payments, as they do not transfer a separate good or
service to the lessee, but rather are part of the payment to use the leased asset and are
attributable to the lease component. Therefore, the present value of the $5,000 annual
payments should be included in the initial measurement of the lease liability, and thus the
right-of-use asset as well.
d. 12/31/29 Lease Liability 3,000
Gain on lease 3,000
