when costs such as
Interest
Software development (internal)
Software development (purchased)
are capitalized
when are the checks written for payments? when and as, reported in the cash flow statements?
http://www.accountingtools.com/questions-and-answers/capitalization-of-…
http://www.accountingtools.com/questions-and-answers/what-is-capitalize…
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Capitalized interest works like this.. say you are building a bridge that you will charge tolls on but the construction period won't be done for 2 years. You will calculate the interest payments that would be due over the next 2 years on the loan you are taking to build the bridge and then borrow that amount. So say interest was $1 million a year and the bridge cost $500 million, you are now going to borrow $502 million (which pushes interest up cause interest is higher on $502 than $500, pushing the borrowing size up, etc, it's a tad recursive but eventually levels itself out).
Over the next 2 years interest is paid from the capitalized interest fund that was created, so whatever you borrowed over $500 gets put in a separate fund that can only be used for those interest payments. After the 2 year period interest is paid normally from the revenues created by the bridge. So technically, the checks written for the payments of the 'capitalized interest' are now made throughout the rest of the life of the loan as you amortize that capitalized interest amount as well as the principal. I'm not sure how it gets reported in cash flow statements but that shouldn't be too hard to find.
Let me know if that makes sense.
but doesn't that interest for the 2 years of construction just get pushed-down the 2 years (simply postponed) instead of borrowing and adding it to the cumulative
the checks part is clear, come to think of it i asked kind of a silly question really ... obviously the checks will be paid when the postponement is over ... hahha...
however, as far as the cashflows go it would depend upon what is being capitalized operations based items or investment based items or how the company would see fit to report it in the cashflows, the capitalized operating items' recording upon the balance sheet may vary as current or non-current
Nope, it gets added to the cumulative. If it were to simply get postponed you have two options: one lump sum interest payment at the end of the 2 years to cover that time period -- no on wants that OR to spread that owed interest out over the life of the loan -- aka capitalized interest. A lender wouldn't want to let you forego any form of payment that long so this is the solution.
It makes more intuitive sense if you think about it on a bond deal than a loan, say a City borrows to build a parking structure and you buy the bonds, you still want to receive interest payments over those first two years. So the interest you are receiving is coming from the cumulative total that the City needed to borrow.
Explain why capitalizing cost instead of expensing it increases net income? (Originally Posted: 01/12/2018)
Everywhere I read about capitalizing a cost talks about how it increases net income. Can someone explain why? I thought capitalizing something turned it into capex which i thought didnt have any effect on net income in the first year before depreciation. Or is it like saying it increases net income compared to if you were to expense it?
Sometimes this question can be phrased in vaguely, particularly in an interview context. You may want to ask clarifying questions to make sure you are speaking about the right time period and whether net income increases on an absolute or relative basis to expensing / capitalizing because, as you allude to, both of these factors matter.
I think you understand, but here is how it works:
Assume $1,000 piece of equipment, 10 year depreciable life
If you expense it * EBT decreases by $1,000 * Net Income decreases by $1,000*(1-tax)
If you capitalize it, immediate effects are: * EBT and Net Income do not change * Cash decreases by $1,000; PP&E increase by $1,000 * Balance sheet balances!
If you capitalize it, T+1 effects are: * EBT decreases by $1,000/10 years = $100, Net Income decreases by $100(1-tax) * PP&E decreases by $100 (depreciation); Retained Earnings decreases by $100(1-tax) (change in net income); and Cash "increases" by $100 *tax (think of this as tax savings) * Balance sheet balances!
In the real world, and in real accounting, assets are depreciated intra-year on a monthly or even daily basis so not everything fits into neat annual boxes, even if us bankers like to think that way....
Thanks for the detailed explanation. You confirmed my thought process and this type of thing definitely needs more elaboration if asked in a question.
How to Capitalize Corporate Costs? (Originally Posted: 05/02/2017)
If I'm doing a SOTP DCF analysis - how do you determine the EBITDA multiple to capitalize corporate costs at? Thanks in advance.
Bump - help is very appreciated!
This would probably help you.
Still really stuck on this - would be really appreciative of any help!
Try to allocate otherwise apply a blended multiple (eg weighted average of the segments). There's no hard and fast rule.
Omnis eos debitis tenetur. Et iusto unde libero quas. Dolor molestiae et nihil soluta quia fuga tenetur.
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