Suggested Grading Concepts and Grading Scheme:

Content (80%)

30 Sale portion of the sale-leaseback (10 each).

Record cash for the sale price.

Decrease equipment at its undepreciated cost.

Establish a deferred gain for the excess of the sale price of the equipment over its undepreciated cost.

15 Gain on the sale portion (5 each; maximum 15).

Amortized over the lease term.

As a reduction of depreciation expense.

Results in essentially same depreciation and interest as if the asset were not sold and leased back, but a note issued for cash instead.

Because the sale and the leaseback are two components of a single transaction rather than two independent transactions.

Consistent with the realization principle.

15 Leaseback portion of the sale-leaseback transaction (5 each; maximum 15).

Both an asset.

And a liability.

At the present value of minimum lease payments.

Excluding any executory costs.

Asset amount cannot exceed fair value.

20 Conceptual basis (10 each).

Economic effect of a long-term capital lease on the lessee is similar to that of an installment purchase.

Transfers substantially all of the benefits and risks incident to the ownership of property to the lessee.

80 points

Writing (20%)

5 Terminology and tone appropriate to the audience (CFO).

6 Organization permits ease of understanding.

Introduction that states purpose.

Paragraphs separate main points.

9 English

Word selection.

Spelling.

Grammar.

20 points

Trueblood Case 15-9

A solution and extensive discussion materials accompany each case in the Deloitte & Touche Trueblood Case Study Series. These are available to instructors at: http://www.deloitte.com/us/truebloodcases.

Ifrs Case 15-10

Requirement 1

The desire to obtain “off-balance-sheet financing” sometimes is a leasing stimulus. When funds are borrowed to purchase an asset, the liability has a detrimental effect on the company’s debt-equity ratio and other quantifiable indicators of riskiness. Similarly, the purchased asset increases total assets and correspondingly lowers calculations of the rate of return on assets. As a result, managers often try to avoid reporting assets and liabilities by leasing rather than buying and by constructing lease agreements in such a way that capitalizing the assets and liabilities is not required.

Requirement 2

Whether or not there is any real effect on security prices, sometimes off-balance-sheet financing helps a firm avoid exceeding contractual limits on designated financial ratios (like the debt to equity ratio, for instance). For these reasons, SCI would prefer an operating lease. SCI should not specify a bargain purchase option or the transfer of ownership to the lessee. SCI could structure the lease so that the lease term is less than 75% of its useful life of the leased asset and the present value of lease payments is less than 90% of the asset’s fair value.

Requirement 3

It would be more difficult for SCI to obtain “off-balance-sheet financing” through an operating lease under IFRS, because IAS No. 17 stresses substance over form. IFRS does not provide a specific percentage for determining what constitutes a “major portion” of the asset’s economic life or “substantially all” of the leased asset’s fair value. IFRS also provides a fifth indicator of a lease that normally leads to a finance lease as well as three more indicators that might lead to a finance lease. Professional judgment rather than specific rules determine whether the risks and rewards of ownership have been transferred to the lessee.

British Airways Case

Requirement 1

In general – yes. More specifically – no.

Both sets of standards attempt to identify leases under which substantially all the risks and rewards of ownership are transferred to the lessee and treat the assets as if they had been purchased outright. However, to distinguish between a capital lease and an operating lease, U.S. GAAP uses four specific classification criteria, whereas IFRS uses a variety of “indicators” of a capital (finance) lease. In this regard, IFRS is considered to be more principles-based while U.S. GAAP is more rules-based.

Requirement 2

At March 31, 2009, BA’s operating lease commitments for aircraft totaled £862 million. Its finance lease commitments for aircraft totaled £3,522 million. Under both U.S. GAAP and IFRS, lessees report operating and finance lease commitments for the upcoming five years. However, we see that BA, using IFRS, reports commitments in the next year, years 2-5, and five years or more. Under U.S. GAAP, lessees report commitments in each of the next five years and then in total for beyond five years.

15-151