Question

On July 31, 2010, Bismarck Company engaged Duval Tooling Company to construct a special-purpose piece of factory machinery, Construction was begun immediately and was completed on November 1, 2010. To help finance construction, on July 31 Bismarck issued a $500,000, 4-year, 14% note payable at Wellington National Bank, on which interest is payable each July 31. $600,000 of the proceeds of the note was paid to Duval on July 31. The remainder of the proceeds was temporarily invested in short-term marketable securities (trading securities) at 8% until November 1. On November 1, Bismarck made a final $150,000 payment to Duval. Other than the note to Wellington, Bismarck's only outstanding liability at December 31, 2010, is a $50,000, 6%, 6-year note payable, dated January 1, 2007, on which interest is payable each December 31.

Instructions:

Calculate the interest revenue, weighted-average accumulated expenditures, avoidable interest, and total interest cost to be capitalized during 2010. Round all computations to the nearest dollar.                                                                                                              

Answer 1

Given in the question that Bismark issued a note payable for $500,000 but out of this it is given that he paid $600,000 to Duval on July 31st. It is not possible, so taking that the note payable amount as $750,000.

Number of months for funds usage = 3 months (August, September, October)

Interest revenue = ($750,000 - $600,000) x 8% x 3/12 = $3,000

Weighted average Accumulated expenditure = $600,000 x 3/12 = $150,000

Avoidable interest = $600,000 x 14% x 3/12 = $21,000

So this amount of avoidable interest needs to be capitalized during 2010.