How does Annex Brands determine the present value of lease payments for operating leases?
Annex_Brands Franchise · 2025 FDDAnswer from 2025 FDD Document
The ROU assets represent the Company's right to use an underlying asset for the lease term and the lease liabilities represent the Company's obligation to make lease payments arising from the lease. Such ROU assets and liabilities are recognized at the lease commencement date based on the present value of lease payments over the lease term. As the Company's leases do not provide an implicit rate, the Company uses a risk-free rate based on the information available at the commencement date in determining the present value of lease payments. The risk-free rate used by the Company is the rate of a zero-coupon U.S. Treasury instrument with a term equal to or most closely approximating the lease term at lease commencement. The operating lease ROU assets also includes any lease payments made and excludes lease incentives. Lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.
Source: Item 21 — Financial Statements (FDD page 109)
What This Means (2025 FDD)
According to Annex Brands' 2025 Franchise Disclosure Document, the company calculates the present value of lease payments for operating leases by discounting future lease payments. Since Annex Brands' leases do not provide an implicit rate, a risk-free rate is used, based on information available at the lease commencement date. This risk-free rate is determined by using the rate of a zero-coupon U.S. Treasury instrument that has a term equal to, or closely approximating, the lease term at the start of the lease. The operating lease right-of-use (ROU) assets also include any lease payments made and exclude lease incentives.
For a prospective Annex Brands franchisee, this means that the initial capitalization of a lease on Annex Brands' balance sheet, which affects its reported assets and liabilities, is based on a standardized, low-risk interest rate (the U.S. Treasury rate). This approach is commonly used when the actual interest rate embedded in the lease agreement is not explicitly stated. It's important to note that lease terms may include options to extend or terminate the lease, which are considered when it is reasonably certain that Annex Brands will exercise that option. Lease expenses are recognized on a straight-line basis over the lease term.
This accounting treatment can impact Annex Brands' financial statements, specifically the balance sheet, by recognizing ROU assets and lease liabilities. The total operating lease liability for Annex Brands is calculated by totaling the lease payments for the years 2025 through 2029, which amount to $1,555,000, and then subtracting the present value discount of $146,000, resulting in a total operating lease liability of $1,409,000. The current portion of the lease liability, which is $306,000, is then subtracted to arrive at the total operating lease liability, net of the current portion, of $1,103,000.
Annex Brands' approach to lease accounting aligns with standard accounting practices under ASC 842, which aims to provide a transparent view of a company's lease obligations. Franchisees reviewing Annex Brands' financial statements should understand that these lease-related assets and liabilities reflect the company's long-term commitments and can influence financial ratios and performance metrics.