Finance Obligations

6 Months Ended

May 31, 2012

11. Finance Obligations

On March 31, 2011, Heat Power entered into a Finance Leasing Contract (“Contract 1”) with a leasing company covering its thermoelectric plants, heat transfer stations, and related machinery and equipment (“Transferred Assets 1”), having a gross value of RMB 125,635,589 (US$19,392,298). Pursuant to Contract 1, Heat Power sold to the leasing company its Transferred Assets 1 used for its operation in exchange for RMB 60,000,000 (US$9,261,260) in cash. Under Contract 1, Heat Power leased back the Transferred Assets 1 with a quarterly installment payment of RMB 3,555,163 (US$548,755) until April 2016, when Contract 1 expires. Contract 1 is guaranteed by Coal Group and an unrelated third party. Upon the repayment of all outstanding rental obligations, Heat Power may re-purchase the Transferred Assets 1 at a purchase price of RMB 900,000, or RMB 1 if Heat Power timely pays the quarterly installments. Upon the execution of Contract 1, Heat Power paid a servicing fee of RMB 3,300,000 (US$502,337) and a refundable deposit of RMB 9,000,000 (US$1,389,189) to the leasing company.

On March 28, 2012, Heat Power entered into another Finance Leasing Contract (“Contract 2”) with a leasing company related to its thermoelectric plants, heat transfer stations, and machinery and equipment (“Transferred Assets 2”), with a gross value of RMB 52,293,912 (US$8,211,468). Pursuant to Contract 2, Heat Power sold to the leasing company its Transferred Assets 2 used for its operation in exchange of RMB 48,000,000 (US$7,537,215) in cash. Under Contract 2, Heat Power leased back the Transferred Assets 2 with a quarterly installment payment of RMB 2,868,777 (US$450,471) until April 2017, when Contract 2 expires. Contract 2 is guaranteed by Coal Group and an unrelated third party. Upon the repayment of all outstanding rental obligations, Heat Power may re-purchase the Transferred Assets 2 at a purchase price of RMB 720,000, or RMB 1 if Heat Power timely pays the quarterly installments. Included in the amount borrowed is a servicing fee of RMB 2,400,000 (US$379,897) and a refundable deposit of RMB 9,600,000 (US$1,507,443).

Since Heat Power has the option to repurchase its Transferred Assets, Heat Power is considered to have “continuing involvement” pursuant to ASC 840-40, “Sales-Leaseback Transactions” (ASC 840-40). Accordingly, the lease did not qualify as a normal sale-leaseback transaction and is being accounted for under the financing method in which Heat Power reports the sales proceeds as a finance obligation, continues to report the Transferred Assets as its assets, and continues to depreciate the Transferred Assets. The lease payments are being recognized under the interest method. The effective interest rate of these transactions are 6.70% and 7.05% for Contract 1 and Contract 2, respectively.

Future payments of these finance obligations as of May 31, 2012 are as follows:

Year Ending
November 30,	Amount

2012	$	2,012,487
2013		4,034,885
2014		4,034,885
2015		4,034,885
Thereafter		3,814,370

		17,931,512
Less: amount representing interest		2,615,406

Finance obligations		15,316,106
Less: current portion of finance obligations		3,059,834

Finance obligation, net of current portions	$	12,256,272

Interest expense for the finance obligations amounted to $285,622 and $106,821 for the three months ended May 31, 2012 and May 31, 2011, and $485,570 and $106,821 for the six months then ended, respectively. The refundable deposits are included in other long term assets in the consolidated balance sheets as of May 31, 2012. The costs related to these Contracts of RMB 7,200,000 (US$1,130,582) are being amortized by the interest method over the life of the leases.

China Energy CORP 10-Q/A