# ch07 - Chapter 7 Solutions Overview Problem Length{S{M{M{L...

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Chapter 7 Solutions Overview: Problem Length Problem #s {S} 2, 3, 5, 8, and 10 {M} 1, 4, 6, 7, 9, 11, 12, and 13 Appendices {M} 7A-1 and 7B-1 {L} 7A-2 and 7B-2 1.{M} Exhibit 7S-1 contains the calculations required. Exhibit 7S-1. Chevron Adjustments for Capitalization of Interest Amounts in \$ millions part c Year 1995 1996 1997 1998 1999 1999/95 As reported Interest expense \$ 401 \$ 364 \$ 312 \$ 405 \$ 472 1.18 Pretax income 1,789 4,740 5,502 1,834 3,648 2.04 Net income 930 2,607 3,256 1,339 2,070 2.23 Capitalized interest 141 108 82 39 59 Amortization of capitalized interest 47 24 28 35 9 a. Calculations EBIT \$2,190 \$5,104 \$5,814 \$2,239 \$4,120 Times interest earned 5.46 14.02 18.63 5.53 8.73 1.60 b. Adjusted Net capitalized interest \$ 94 \$ 84 \$ 54 \$ 4 \$ 50 After 35% income tax 61 55 35 3 33 Interest expense 542 472 394 444 531 0.98 EBIT 2,237 5,128 5,842 2,274 4,129 (i) Times interest earned 4.13 10.86 14.83 5.12 7.78 1.88 (ii) % reduction from reported ratio -24.4% -22.5% -20.4% -7.4% -10.9% Pretax income \$1,695 \$4,656 \$5,448 \$1,830 \$3,598 2.12 (iii) Net income 869 2,552 3,221 1,336 2,038 2.34 % reduction from reported -6.6% -2.1% -1.1% -0.2% -1.6% 7-1

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b. (iv) Expensing all interest reduces net income for each year. However the effect diminishes over time. c. (i) Because the amount of interest capitalized declined over time, restatement reduces the rate of increase in interest expense. (ii) While the interest coverage ratio is lower after restatement, its trend improves due to the lower growth rate of interest expense. (iii)Both pretax and net income are lower after restatement but their growth rate improves due to the lower growth rate of interest expense. d. The restated data are more useful for financial analysis because they are based on actual interest expense. They provide better comparability with firms that do not capitalize interest. 2.{S}a. (i) Interest cost can be capitalized on borrowings directly associated with the project or when the company has debt equal to or exceeding the cost of construction. (ii) Start-up costs must be expensed under U.S. GAAP. (iii) Shipping costs are considered part of the cost of acquisition. (iv) Increases in the market value of land and buildings may not be recognized under U.S. GAAP. b. (i) While the benchmark treatment under IAS 23 is to expense all interest, capitalization of borrowing costs directly attributable to a project is an allowed alternative. (ii) Same as U.S. GAAP except that the benchmark The capitalization of interest is an allowed alternative under IAS 23 (paragraph 11) (iii) Same as U.S. GAAP. (iv) While revaluation is an allowed alternative under IAS 16, it must be applied to all assets in a particular class and could be selectively applied to a particular project. 3.{S}a. Under SFAS 86 (text page 242), computer software development costs can be capitalized only when economic feasibility has been established. 7-2
b. Under IAS 38 (paragraph 45), intangible assets such as computer software can be recognized when the enterprise can demonstrate technical and economic feasibility. 4.{M} Exhibit 7S-2 contains the calculations required by parts a through c.

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ch07 - Chapter 7 Solutions Overview Problem Length{S{M{M{L...

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