Introduction:
TechCo, the company that makes electronic gadgets, decided to expand its operations by purchasing new machinery to increase production. This machinery is crucial for making their products faster and with better quality.
The Situation:
TechCo needed to buy a new piece of machinery, which is classified as Property, Plant, and Equipment (PP&E). The cost of the machinery was $50,000. However, TechCo didn’t have enough cash on hand to pay for it upfront, nor did they want to pay immediately upon delivery.
The Decision:
TechCo decided to acquire the machinery through a finance lease. This means TechCo would get the machinery now, use it for production, but pay for it over time according to the lease agreement. The machinery was delivered to TechCo, and they began using it right away.
The Numbers:
Cost of the machinery: $50,000
Payment method: Finance lease (no upfront payment, and payment is spread over the lease term)
PP&E Type: Direct, as it’s directly involved in manufacturing the company’s products.
Question for You:
Now, let’s think about how TechCo would record this transaction in their accounting books according to IFRS (International Financial Reporting Standards). When the machinery arrives, TechCo needs to make two journal entries:
When the machinery is received:
Debit: PP&E (Machinery) for the total cost of the machinery.
Credit: Lease Liability for the amount owed under the finance lease.
When TechCo makes lease payments over time:
Debit: Lease Liability for the amount of the payment.
Credit: Cash/Bank for the amount paid.
Can You Figure Out the Journal Entries?
Based on the information provided:
When TechCo receives the machinery:
Debit: PP&E (Machinery) for $50,000
Credit: Lease Liability for $50,000
When TechCo makes the first lease payment (for example, $10,000):
Debit: Lease Liability for $10,000
Credit: Cash/Bank for $10,000
Think about why each of these entries is made. The debit to PP&E increases TechCo’s assets because they now own the machinery. The credit to Lease Liability shows they owe money under the lease agreement. Later, when they make payments, they reduce both the liability and their cash balance.
This is a real-world example of how companies can acquire expensive equipment without paying everything upfront, allowing them to manage their finances while still growing their business.
Disclaimer: This case study is designed to enhance digital financial literacy and business management skills among students, to help them apply these concepts in real-world scenarios to boost their earnings, employability and entrepreneurial potential. The case was edited by Razi Amin, a Harvard MBA with 30+ years of leadership and advisory experiences at major international banks in New York, London, Hong Kong and Washington, DC. Razi is also a member of Harvard Alumni for Global Women's Empowerment. While AI technology was used for prompt-engineering to generate case content, every case has been rigorously reviewed and edited to ensure accuracy, clarity, and educational effectiveness. Reproduction of this case material is prohibited without permission from ASPEN Capital Solutions LLC.
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