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Basic Question 8 of 12
The capitalization of interest distorts all of the following except ______.
B. cash flows from operations
C. net income
D. change in cash during period
A. interest coverage ratio
B. cash flows from operations
C. net income
D. change in cash during period
User Contributed Comments 12
| User | Comment |
|---|---|
| xweibabson | what about the tax effect? |
| Gina | The capitalization of interest affects reported income but not taxable income (IRS). Therefore, the company would still need to pay the same amount of tax, and the change in cash remains the same. |
| amamed213 | Can someone explain more ? |
| clarelau | It affects taxable income. Capitalization results in higher earnings in earlier period. It has tax benefit in later period, but not in earlier period. However, the net change remains the same trough the whole period. |
| johntan1979 | I believe the explanation in the answer by AnalystNotes about CFO is wrong. It should be overstated, not understated. Interest expense reduces CFO, so if part of that interest goes under CFI, then CFO is overstated. |
| CHUCKYT | Analyst notes is stating that interest expense is understated, not CFO. That one got me too Johntan1979. The answer is correct. |
| philjoe | Actual cash taxes paid has NOTHING to do with this. This is for book taxes. Cash taxes is based on tax law... when book tax and cash tax differ, a deferred tax asset or liability is created. I think that is in a future section though. |
| birdperson | i agree with johntan1979 (per usual) |
| daverco | It should't distort the interest coverage ratio, should it? It is supposed to be calculated based on total interest payments, whether capitalized or expensed (see also the next question). |
| SRI2010 | daverco.. it distorts the interest coverage ratio as the interest costs are low. smaller denominator. better coverage. As far as the next question is concerned, it refers to the fact that, as an analyst, you should be cognizant of the interest costs involved, regardless of its classification. interest coverage here refers to the Financial Reporting whereas in the next question, it is about Financial Analysis. |
| babycdq | Johntan1979, the notes is correct. CFO is overstated. Using indirect method to prepare the cash flow statement, everything start from NI. Capitalize the interest will make NI highter. The interest expenses are recorded in cash expenses for interest payable in CFI statement. The capitalized interest make CFI lower(understate), and make CFO higher(overstate). |
| babycdq | Opps...pleases disregard my first sentence in the last comments... |
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Learning Outcome Statements
describe general principles of expense recognition, specific expense recognition applications, implications of expense recognition choices for financial analysis and contrast costs that are capitalized versus those that are expensed in the period in which they are incurred
CFA® 2024 Level I Curriculum, Volume 2, Module 2.