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On 1 January 20X6 Stremans Co borrowed $1.5m to finance the production of two assets, both of which
were expected to take a year to build. Work started during 20X6. The loan facility was drawn down and
incurred on 1 January 20X6, and was utilised as follows, with the remaining funds invested temporarily.
Asset A Asset B
$’000 $’000
1 January 20X6 250 500
1 July 20X6 250 500
The loan rate was 9% and Stremans Co can invest surplus funds at 7%.
Required
Ignoring compound interest, calculate the borrowing costs which may be capitalised for each of the assets
and consequently the cost of each asset as at 31 December 20X6.Hello sir,
the solution of this question in BPP as per borrowing costs is based on the full amount and not 250 Jan to Dec, then 250 July to Dec for Asset A.500 x 9%=45 for asset A but
I expected it to be
250 x 9% + 250 x 9% x 6/12 =33.75Why was the amount aggregated before calculating interest?
How much was actually borrowed from the bank on 1 January, 2016?
$1.5 million
So, do you agree that you would have to pay interest at 9% on $1.5 million for the full year?
But you didn’t need the full amount immediately so you were able to invest half of it on 1 January for 6 months
So you have to pay interest at 9% on $1.5 million for the full year but you are able to earn interest at the rate of 7% on the temporary investment of $750,000 for the six months from 1 January, 2016 to 30 June, 2016
So borrowing costs capitalised will be:
9% x $1.5 million x 12/12 = $135,000
less
7% x $750,000 x 6/12 = $26,250
giving an aggregate of $108,750 and that’s split $36,250 for asset A and $72,500 for asset B
I assume that this agrees with BPP (hopefully!)
OK?
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