Question

Sarasota Inc. is a book distributor that had been operating in its original facility since 1987. The increase in certification programs and continuing education requirements in several professions has contributed to an annual growth rate of  15% forSarasota since 2012. Sarasota’ original facility became obsolete by early 2017 because of the increased sales volume and the fact that Sarasota now carries CDs in addition to books.

On June 1, 2017, Sarasota contracted with Black Construction to have a new building constructed for $4,240,000 on land owned by Sarasota. The payments made by Sarasota to Black Construction are shown in the schedule below.

Date		Amount
July 30, 2017		$ 954,000
January 30, 2018		1,590,000
May 30, 2018		1,696,000
Total payments		$ 4,240,000

Construction was completed and the building was ready for occupancy on May 27, 2018. Sarasota had no new borrowings directly associated with the new building but had the following debt outstanding at May 31, 2018, the end of its fiscal year.

10%,  5-year note payable of $ 2,120,000, dated April 1, 2014, with interest payable annually on April 1.

12%,  10-year bond issue of $ 3,180,000 sold at par on June 30, 2010, with interest payable annually on June 30.

The new building qualifies for interest capitalization. The effect of capitalizing the interest on the new building, compared with the effect of expensing the interest, is material.

A) Compute the weighted-average accumulated expenditures on Sarasota’s new building during the capitalization period.

B) Compute the avoidable interest on Sarasota's new building.

C) Find-Total actual interest cost, total interest captialized, total interest expensed

Answer 1

Solution A:

Construction of Building - Sarasota Inc.
Schedule of Weighted-Average accumulated expenditure
Date	Amount	Current year capitalization period	Weighted Average Accumulated Expenditures
30-Jul-17	$954,000.00	10/12	$795,000.00
30-Jan-18	$1,590,000.00	4/12	$530,000.00
30-May-18	$1,696,000.00	0/12	$0.00
	$4,240,000.00		$1,325,000.00

Solution B:

Weighted average interest rate to be used for interest capitalzation purpose for general borrowings = 10% * 2120000/5300000 + 12% * 3180000 / 5300000 = 11.20%

Avoidable interest for sarasota Inc = $1,325,000 * 11.20% = $148,400

Solution C:

Total actual interest cost = ($2,120,000*10%) + ($3,180,000*12%) = $593,600

Interest capitalized = $148,400

Interest expensed = $593,600 - $148,400 = $445,200