The most effective and mathematically sound solution is to calculate a new, "implicit" interest rate that, when applied with annual compounding for the entire lease, results in the same present value (PV) as if you had used monthly compounding during the initial period.
This
approach satisfies the system's requirement for a single compounding
period while achieving the correct financial result. The process
involves two key steps outside of D365, which are then implemented
within the system.
Step 1: Calculate the Correct Present Value (PV) Using Monthly Compounding
First,
you need to calculate the "true" present value of the lease as of the
commencement date (Jan 24, 2025) using a monthly compounding period for
the first 12.5 months.
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Identify the knowns:
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Payment Stream: The future cash flows you provided.
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Initial Period: 24th Jan 2025 to 1st Feb 2026 (This is ~12.23 months
from commencement to the first payment. For precision, you must use
exact days. D365 will do this, but for your external calc, you can use
months or exact days).
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Compounding: Monthly during this initial period.
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Discount Rate: You need the original incremental borrowing rate (IBR) or implicit rate. Let's assume it's 5% for this example. (You must use your actual rate.)
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Perform the calculation in Excel or a financial calculator:
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The idea is to discount the first payment (Feb '26) back to the commencement date (Jan '25) using a monthly period.
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The formula for the present value of a single sum is: PV = FV / (1 + i/n)^(n*t)
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FV = Future Value (the payment amount)
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i = annual interest rate (e.g., 5%)
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n = compounding periods per year (12 for monthly)
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t = time in years
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Calculate the PV of the first payment:
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Time from Commencement (Jan 24, 25) to First Payment (Feb 1, 26) = 373 days / 365 = ~1.0219 years.
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PV_P1 = 32,366 / (1 + 0.05/12)^(12 * 1.0219)
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Calculate the PV of the remaining payments (which are annual, starting in Feb '27), but you must first discount them all back to February 1, 2026, and then discount that sum back to the commencement date using the monthly method.
This is complex to do manually. It's highly recommended to use Excel's XNPV function or a specialized financial calculator which can handle exact days and varying compounding periods.
The result of this step is the "true" Present Value of the lease, which we'll call PV_correct.
Step 2: Calculate a New "Implicit" Annual Rate
Now, you have the "true" value of the lease (PV_correct). You now need to find an interest rate that, when applied with annual compounding from the commencement date, discounts the exact same payment stream to match PV_correct.
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Set up the equation in Excel:
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Calculate the rate:
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The XIRR function will return an annualized rate. This is your new "implicit" interest rate. Let's call it R_annual.
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This rate R_annual effectively "bakes in" the cost of the monthly compounding during the initial period.
Step 3: Configure the Lease in D365 F&O
Now, configure the lease in D365 using the results of your calculations:
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Lease Details:
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Commencement Date: 24th Jan 2025
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Payment Frequency: Annual (since all payments after the holiday are annual).
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Compounding Period: Annual (you are now using the new rate R_annual designed for annual compounding).
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Annuity Type: Annuity due (payments at the beginning of the period).
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Lease Payments:
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Discount Rate / IBR:
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This is the crucial part. On the lease book (e.g., the IFRS book), do not use the original 5% rate.
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Instead, enter the new "implicit" rate (R_annual) you calculated in Step 2.
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Initial Direct Costs: If there are any, add them to the payment schedule as a negative amount on the commencement date.
By using the newly calculated R_annual,
you are tricking the system. The system uses annual compounding with
this new rate. The mathematical result of this calculation will be a
present value that exactly equals your PV_correct from Step
1. Therefore, the right-of-use asset and lease liability will be
recorded at the correct value, and the interest expense recognized over
the lease term will be accurate, effectively mimicking the desired
monthly-to-annual compounding shift.
