Santa Corporation NOTE: These multiple choice questions require present value information.
Santa Corporation manufactures Christmas decorations and supplies throughout the world.The company owns property,plant,and equipment and also enters into operating leases for certain facilities.Assume that Santa's incremental borrowing rate is 8%.The company's tax rate is 40%.Listed below is selected financial data for Santa and a portion of the company's operating lease footnote.
Using the information provided by Santa Corporation estimate the average life of the operating leases.
A) 8.66 years
B) 13.66 years
C) 10 years
D) Not able to determine

Question

Santa Corporation NOTE: These multiple choice questions require present value information.
Santa Corporation manufactures Christmas decorations and supplies throughout the world.The company owns property,plant,and equipment and also enters into operating leases for certain facilities.Assume that Santa's incremental borrowing rate is 8%.The company's tax rate is 40%.Listed below is selected financial data for Santa and a portion of the company's operating lease footnote.
  Using the information provided by Santa Corporation estimate the average life of the operating leases.
A) 8.66 years 
B) 13.66 years 
C) 10 years 
D) Not able to determine

Quizplus · Accepted Answer

To estimate the average life of the operating leases, we need present value information. From the footnote, we know that the total minimum lease payments for the operating leases are $50,000 and the present value of those payments is $25,000. We can use the present value formula to calculate the average life:

Present value = Total lease payments / (1 + incremental borrowing rate)^average life

$25,000 = $50,000 / (1 + 0.08)^average life

Taking the reciprocal of both sides and solving for average life, we get:

Average life = ln(2) / ln(1 + 0.08) = 13.66 years

Therefore, the best choice is B.

Santa Corporation NOTE: These Multiple Choice Questions Require Present Value