Task: Capitalization of Interest
Wordcrafters Inc. is a book distributor that had been operating in its original facility since 1982. The increase in certification programs and continuing education requirements in several professions has contributed to an annual growth rate of 15% for Wordcrafters since 2002. Wordcrafter's original facility became obsolete by early 2007 because of the increased sales volume and the fact that Wordcrafters now carries tapes and disks in addition to books.
On June 1, 2007, Wordcrafters contracted with Favre Construction to have a new building constructed for $4,000,000 on land owned by Wordcrafters. The payments made by Wordcrafters to Favre Construction are shown in the schedule below.
Date Amount
July 30, 2007 $1,200,000
January 30, 2008 1,500,000
May 30, 2008 1,300,000
Total payments $4,000,000
Acquisition and Disposition of Property, Plant, and Equipment
Construction was completed and the building was ready for occupancy on May 27, 2008. Wordcrafters had no new borrowings directly associated with the new building but had the following debt outstanding at May 31, 2008, the end of its fiscal year.
5-year note payable of $2,000,000, dated April 1, 2004, with interest payable annually on April 1.
10-year bond issue of $3,000,000 sold at par on June 30, 2000, 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.
Instructions:
(a) Compute the weighted average accumulated expenditures on Wordcrafter's new building during the capitalization period.
(b) Compute the avoidable interest on Wordcrafter's new building.
(c) Some interest cost of Wordcrafters Inc. is capitalized for the year ended May 31, 2008.
(1) Identify the items relating to interest costs that must be disclosed in Wordcrafter's financial statements.
(2) Compute the amount of each of the items that must be disclosed.