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1) In calculating the closing debt for each year, why we exclude the interest payment ?
2) Why overhead cost excluded in arriving at taxable profit ?
1. Interest is paid at the end of each year, not added to the amount owing.
2. They are allocated overheads, which means it is just a share of the total overheads that they are currently paying. It does not mean that they are paying any extra in total (and it is only if any extra was being paid that it would be relevant).
I thought the interest could be deducted before calculating the closing balance for each year like how we calculate for amortising loan, as it is also consider as “end of each year”.
For the overhead, means, if the overhead is a allocated overhead, the overhead is only exist for specific year ?
Why on earth should interest be deducted from the amount owing?
The question says that interest is paid each year (as would always be the case) so it doesn’t affect the amount owing on the loan. The question also says that they repay 3,000 of the loan each year, which does obviously reduce the balance owing.With regard to allocated overheads are concerned, however much the company is paying in total for overheads, they can allocate (or charge it) between their various projects in any way they want to for the purpose of measuring the profitability of each project. However, as always for DCF appraisal we are only ever concerned with any extra cash flows to the company that result from doing the project. Simply sharing the existing total differently does not mean that the total being paid by the company is changing and therefore there are no extra cash flows to the company.
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