LaSalle Company is interested in leasing a machine and has identified the following possible lease that it may acquire.

	Lease
Fair value of the machine	$1,100,000
Lease term (non-renewable)	5 years
Lease start date	1st day of year
Discount rate used by lessor	10%
Annual end of year lease payments	$200,000
Transfer of ownership at end of lease	No
Purchase options	None
Economic life of machine	15 years

*The machine has alternative uses

If LaSalle does not lease the machine, LaSalle Company expects to report the following amounts in the year-end financial statements:

Assets: $5,500,000

Liabilities: $4,500,000

Equity: $1,000,000

Income before lease expense and taxes: $750,000

Income tax rate 25%

Questions

1. Indicate whether the lease is finance or operating lease with reasons.

2. Assuming no changes in activity other than the lease, and taxes are unpaid at year-end, prepare an independent analysis for the lease that includes the assets and liabilities sections of the balance sheet and an income statement of the first year, as well as a comparison of debt-to-equity ratios and return on asset ratios (with lease and or without lease).

3. Briefly summarize the lease effect on the two ratios, and comment.