Accounting
The Bear Minimum
Case Summary:
Big Bear Power is a public utility with a strong financial position for past several years. The company is in compliance with all its debt covenants because of its positive cash flow. Big Bear leased combustion turbine from Goliath Co. The lease term is non-cancelable for ten years. The lease was signed on December 15, 2004, but the lessee’s right to use the turbine starts on January 1, 2005.
Issues and Facts
There are three specific provisions associated with the lease.
Provision 1: In negotiating the lease agreement, Big Bear paid $500,000 to its legal counsel Stipe, Berry, Mills and Buck LLP. The company is also required to pay $1 million of legal fees incurred by the lessor.
Provision 2: The lease states a provision that Big Bear must pay a penalty to Goliath if Big Bear’s bank declares a default under its primary credit arrangement. The provision is dependent upon whether or not there is a “material adverse change” in Big Bear’s financial condition. The Company believes the likelihood of default is remote and the bank has no relationship with the lessor.
Provision 3: The lease agreement states that Big Bear’s annual lease payment must be $1 million per year and it is increased (but not decreased) by the same rate increase in the Consumer Price Index (CPI). These increasing levels of payments are ratably over 12 months at the beginning of each month. The annual increase in CPI is four percent in
Case Summary:
Big Bear Power is a public utility with a strong financial position for past several years. The company is in compliance with all its debt covenants because of its positive cash flow. Big Bear leased combustion turbine from Goliath Co. The lease term is non-cancelable for ten years. The lease was signed on December 15, 2004, but the lessee’s right to use the turbine starts on January 1, 2005.
Issues and Facts
There are three specific provisions associated with the lease.
Provision 1: In negotiating the lease agreement, Big Bear paid $500,000 to its legal counsel Stipe, Berry, Mills and Buck LLP. The company is also required to pay $1 million of legal fees incurred by the lessor.
Provision 2: The lease states a provision that Big Bear must pay a penalty to Goliath if Big Bear’s bank declares a default under its primary credit arrangement. The provision is dependent upon whether or not there is a “material adverse change” in Big Bear’s financial condition. The Company believes the likelihood of default is remote and the bank has no relationship with the lessor.
Provision 3: The lease agreement states that Big Bear’s annual lease payment must be $1 million per year and it is increased (but not decreased) by the same rate increase in the Consumer Price Index (CPI). These increasing levels of payments are ratably over 12 months at the beginning of each month. The annual increase in CPI is four percent in