2. 12-1 Capitalization of Interest Chapter 12 Illustrated Solution: Problem 12-45

3. 12-2 Problem Background Oceanwide Enterprises, Inc. If a company self-constructs long-lived assets, they may be entitled to capitalize some interest costs as part of the overall cost of the asset. One of the restrictions is that a company may never capitalize more interest costs than they actually incur (in any fiscal year).

4. 12-3 Part 1: Maximum Interest Capitalized in 2002 Oceanwide Enterprises, Inc. 2002 interest accrued: 12% 5-year note ($2,000,000 x 12%)…………….$ 240,000 10% 10-year bonds ($8,000,000 x 10%)………….800,000

5. 12-4 Part 1: Maximum Interest Capitalized in 2002 Oceanwide Enterprises, Inc. 2002 interest accrued: 12% 5-year note ($2,000,000 x 12%)…………….$ 240,000 10% 10-year bonds ($8,000,000 x 10%)………….800,000 13% 3-year loan ($2,000,000 x 13%)…………….. 260,000 Total interest accrued—2002……………….$1,300,000

6. 12-5 Oceanwide Enterprises, Inc. Funds borrowed as general liabilities cannot be identified with any specific construction project. It is also common that the interest rate varies between different loans and borrowings. Therefore, a weighted-average interest rate must be computed for all general liabilities.

7. 12-6 Part 2: Weighted-Average Interest Rate Oceanwide Enterprises, Inc. Weighted-average interest rate for the general liabilities for 2002: Loan AmountRateInterest Expense $2,000,000x12%=$ 240,000 8,000,000x10%=800,000 $10,000,000$1,040,000

8. 12-7 Part 2: Weighted-Average Interest Rate Oceanwide Enterprises, Inc. Weighted-average interest rate for the general liabilities for 2002: Loan AmountRateInterest Expense $2,000,000x12%=$ 240,000 8,000,000x10%=800,000 $10,000,000$1,040,000 Weighted-average interest rate: ($1,040,000  $10,000,000) = 10.4%

9. 12-8 Part 2: Weighted-Average Interest Rate Oceanwide Enterprises, Inc. Weighted-average interest rate for the general liabilities for 2002: Loan AmountRateInterest Expense $2,000,000x12%=$ 240,000 8,000,000x10%=800,000 $10,000,000$1,040,000 Weighted-average interest rate: ($1,040,000  $10,000,000) = 10.4% This rate will be associated with any expenditures made on construction projects where the expenditures exceed any borrowings that are specific to a project.

10. 12-9 Part 3: Interest to be Capitalized in 2002 Oceanwide Enterprises, Inc. Ship No. 340 was completed in October 2001. No construction costs were incurred on this project in 2002; therefore, there is no capitalized interest in 2002 for Ship No. 340.

11. 12-10 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002$1,150,00010.4 6/12$ 59,800

12. 12-11 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200

13. 12-12 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 20021,200,00010.4 9/1293,600

14. 12-13 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333

15. 12-14 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002750,00013.0 12/1297,500

16. 12-15 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002 July 1, 2002 750,000 1,250,000 13.0 12/12 6/12 97,500 81,250

17. 12-16 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002 July 1, 2002 750,000 1,250,000 950,000 13.0 10.4 12/12 6/12 97,500 81,250 49,400

18. 12-17 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002 July 1, 2002 750,000 1,250,000 950,000 13.0 10.4 12/12 6/12 97,500 81,250 49,400 Ship #344: Sept. 1, 2002810,00010.4 4/1228,080

19. 12-18 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002 July 1, 2002 750,000 1,250,000 950,000 13.0 10.4 12/12 6/12 97,500 81,250 49,400 Ship #344: Sept. 1, 2002810,00010.4 4/1228,080 Ship #345: Nov. 1, 2002360,00010.4 2/126,240

20. 12-19 Part 3: Interest to be Capitalized in 2002 ExpendituresAmount Interest Capitalization Rate (%) Fraction of the Year Outstanding Capitalized Interest Ship #341: As of Jan. 1, 2002 April 1, 2002 $1,150,000 1,200,000 10.4 6/12 3/12 $ 59,800 31,200 Ship #342: As of Jan. 1, 2002 May 1, 2002 1,200,000 1,600,000 10.4 9/12 5/12 93,600 69,333 Ship #343: As of Jan. 1, 2002 July 1, 2002 750,000 1,250,000 950,000 13.0 10.4 12/12 6/12 97,500 81,250 49,400 Ship #344: Sept. 1, 2002810,00010.4 4/1228,080 Ship #345: Nov. 1, 2002360,00010.4 2/126,240 Total capitalized interest for 2002$516,403

21. 12-20 End of Problem