1. Compute the following ratios for Southwest Airlines for the most recent fiscal year (2017). Briefly interpret each ratio.
   1. Long-term Debt to Total Assets (make sure current and long-term maturities of long-term debt and capital lease obligations are included in the numerator)
   2. Return on Assets (Net Income/Total Assets))

2. For Southwest Airlines determine the following (Hint: Note 7 will be very useful here):
   1. Operating lease payment (or expense) made during the 2017 fiscal year
   2. Total undiscounted operating lease payments due in the future (ignore subleases, i.e. do not use the operating leases, net number)
   3. Total undiscounted capital lease payments due in the future
   4. Total capital lease liability at the end of 2017 (excluding the lease incentive obligation of $105 million)
   5. Net capital lease asset at the end of 2017

1. Calculate the present value of operating lease payments (use the gross amounts, not the amounts net of subleases) for Southwest Airlines using a discount rate of 6%. Assume the minimum lease payments due after 2022 are split evenly over 2023 and 2024. If the operating leases were capitalized, Southwest would report an asset and liability approximately equal to the present value of future operating lease payments. Re-compute the long-term debt-to-total assets ratio and ROA for Southwest. Include the present value of the future operating lease payments as both assets and long-term debt in recalculating the ratios. Ignore any income differences that could result from capital versus operating leases (i.e., leave net income unchanged). Discuss how adding assets and liabilities (to the balance sheet) for the operating leases changes your interpretations of the ratios from before.

2. A significant difference between operating leases and capital leases is the calculation of a liability and asset on the balance sheet. Discuss why the FASB decided to implement the new lease standard (for fiscal periods beginning after December 15, 2018) that places assets and liabilities on the balance sheet for both operating and capital/financing leases.

Southwest Airlines Co. Consolidated Balance Sheet (in millions, except share data) December 31, 2017 December 31, 2016 ASSETS Current assets 1,495 $ Cash and cash equivalents Short-term investments Accounts and other receivables Inventories of parts and supplies, at cost Prepaid expenses and other current assets 1,778 662 420 460 4,815 1,680 1,625 546 337 310 4,498 Total current assets Property and equipment, at cost: 21,368 4,399 919 1,543 28,229 9,690 18,539 970 786 20,275 3,779 1,190 1,220 26,464 9,420 17,044 970 774 23,286 Flight equipment Ground property and equipment Deposits on flight equipment purchase contracts Assets constructed for others Less allowance for depreciation and amortization Goodwill Other assets 25,110 $ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable Accrued liabilities Air traffic liability Current maturities of long-term debt 1,320 S 1,178 1,985 1,777 3,460 348 6,905 566 6,844 Total current liabilities 3,320 2,358 Long-term debt less current maturities Deferred income taxes Construction obligation Other noncurrent liabilities Stockholders' equity: 2,821 3,374 1,078 728 707 Common stock, $1.00 par value: 2,000,000,000 shares authorized 808 1,451 14,621 12 808 807,611,634 shares issued in 2017 and 2016 Capital in excess of par value Retained earnings Accumulated other comprehensive income (loss) 11,418 (323) (4,872) 8,441 23,286 stock, at cost: 219,060,856 and 192,450,855 shares in 2017 and 2016 respectively Total stockholders' equity (6,462) 10,430 25.110 $ 7. LEASES The Company's fleet included 53 aircraft on operating lease and 69 aircraft on capital lease as of December 31, 2017, compared with 83 aircraft on operating lease and 51 aircraft on capital lease, as of December 31, 2016. Amounts applicable to these aircraft on capital lease that are included in property and equipment were: (in millions) Flight equipment Less: accumulated amortization 2017 2016 1,207 S 172 1,035 $ 923 82 841 Total rental expense for operating leases, both aircraft and other, charged to operations in 2017, 2016, and 2015 was $939 million, $932 million, and $909 million, respectively. The majority of the Company's terminal operations space, as well as 144 aircraft, including 76 B717s subleased to Delta and 15 Classic aircraft grounded in September 2017, were under operating leases at December 31,2017. For aircraft operating leases and for terminal operations leases and other real estate leases, expense is recorded on a straight-line basis and included in Aircraft rentals and in Landing fees and other rentals, respectively, in the Consolidated Statement of Income. The majority of the Company's terminal operations space was under operating leases at December 31,2017; however, due to the nature of airport terminal lease arrangements, most of those future lease payments are considered variable, and thus excluded from the Company's disclosures of future minimum lease payments. Future minimum lease payments under capital leases and noncancelable operating leases and rentals to be received under subleases with initial or remaining terms in excess of one year at December 31,2017, were Capital Operating (in millions) 2018 2019 2020 Operating leases (b) Subleases leases, net 257 233 leases 107 S 106 359 S(102)S 264 100 96 416 (78) (41) (17) 114 68 169 1,027 2022 Thereafter Total minimum lease payments Less amount representing interest Present value of minimum lease payments (a) Less current portion Long-term portion See Note 4 for further details (a) Excludes lease incentive obligation of $105 milion. (b) Includes 15 remaining Classic aircraft on operating leases, which net remaining lease payments were included in the $63 million grounding charge recorded during 2017 85 930 S 1,371 (344) S 150 780 79 701 The aircraft leases generally can be renewed for one to five years at rates based on fair market value at the end of the lease term. Most aircraft leases have purchase options at or near the end of the lease term at fair market value, generally limited to a stated percentage of the lessor's defined cost of the aircraft. On July 9, 2012, the Company signed an agreement with Delta Air Lines, Inc. and Boeing Capital Corp. to lease or sublease all 88 ofAirTran Airways' B717s to Delta at agreed-upon lease rates. As of December 31,2016, the Company Southwest Airlines Co. Consolidated Balance Sheet (in millions, except share data) December 31, 2017 December 31, 2016 ASSETS Current assets 1,495 $ Cash and cash equivalents Short-term investments Accounts and other receivables Inventories of parts and supplies, at cost Prepaid expenses and other current assets 1,778 662 420 460 4,815 1,680 1,625 546 337 310 4,498 Total current assets Property and equipment, at cost: 21,368 4,399 919 1,543 28,229 9,690 18,539 970 786 20,275 3,779 1,190 1,220 26,464 9,420 17,044 970 774 23,286 Flight equipment Ground property and equipment Deposits on flight equipment purchase contracts Assets constructed for others Less allowance for depreciation and amortization Goodwill Other assets 25,110 $ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable Accrued liabilities Air traffic liability Current maturities of long-term debt 1,320 S 1,178 1,985 1,777 3,460 348 6,905 566 6,844 Total current liabilities 3,320 2,358 Long-term debt less current maturities Deferred income taxes Construction obligation Other noncurrent liabilities Stockholders' equity: 2,821 3,374 1,078 728 707 Common stock, $1.00 par value: 2,000,000,000 shares authorized 808 1,451 14,621 12 808 807,611,634 shares issued in 2017 and 2016 Capital in excess of par value Retained earnings Accumulated other comprehensive income (loss) 11,418 (323) (4,872) 8,441 23,286 stock, at cost: 219,060,856 and 192,450,855 shares in 2017 and 2016 respectively Total stockholders' equity (6,462) 10,430 25.110 $ 7. LEASES The Company's fleet included 53 aircraft on operating lease and 69 aircraft on capital lease as of December 31, 2017, compared with 83 aircraft on operating lease and 51 aircraft on capital lease, as of December 31, 2016. Amounts applicable to these aircraft on capital lease that are included in property and equipment were: (in millions) Flight equipment Less: accumulated amortization 2017 2016 1,207 S 172 1,035 $ 923 82 841 Total rental expense for operating leases, both aircraft and other, charged to operations in 2017, 2016, and 2015 was $939 million, $932 million, and $909 million, respectively. The majority of the Company's terminal operations space, as well as 144 aircraft, including 76 B717s subleased to Delta and 15 Classic aircraft grounded in September 2017, were under operating leases at December 31,2017. For aircraft operating leases and for terminal operations leases and other real estate leases, expense is recorded on a straight-line basis and included in Aircraft rentals and in Landing fees and other rentals, respectively, in the Consolidated Statement of Income. The majority of the Company's terminal operations space was under operating leases at December 31,2017; however, due to the nature of airport terminal lease arrangements, most of those future lease payments are considered variable, and thus excluded from the Company's disclosures of future minimum lease payments. Future minimum lease payments under capital leases and noncancelable operating leases and rentals to be received under subleases with initial or remaining terms in excess of one year at December 31,2017, were Capital Operating (in millions) 2018 2019 2020 Operating leases (b) Subleases leases, net 257 233 leases 107 S 106 359 S(102)S 264 100 96 416 (78) (41) (17) 114 68 169 1,027 2022 Thereafter Total minimum lease payments Less amount representing interest Present value of minimum lease payments (a) Less current portion Long-term portion See Note 4 for further details (a) Excludes lease incentive obligation of $105 milion. (b) Includes 15 remaining Classic aircraft on operating leases, which net remaining lease payments were included in the $63 million grounding charge recorded during 2017 85 930 S 1,371 (344) S 150 780 79 701 The aircraft leases generally can be renewed for one to five years at rates based on fair market value at the end of the lease term. Most aircraft leases have purchase options at or near the end of the lease term at fair market value, generally limited to a stated percentage of the lessor's defined cost of the aircraft. On July 9, 2012, the Company signed an agreement with Delta Air Lines, Inc. and Boeing Capital Corp. to lease or sublease all 88 ofAirTran Airways' B717s to Delta at agreed-upon lease rates. As of December 31,2016, the Company