Question

Voodoo Limited is a manufacturing company that prepares its financial statements to 31 December each year. Before the financial statements for the year ended 31 December 2018 can be finalised, a number of outstanding issues need to be resolved. Issue 1: In January 2018, Voodoo Limited commenced a programme to extend and modernise the company's manufacturing facilities. The programme cost £2,500,000 and Voodoo Limited financed the work through a mixture of general and specific debt. The directors estimate that 60% of the programme was financed by general debt and 40% by specific debt. Voodoo Limited's current general borrowing rate is 10% per annum while the specific debt carries an interest rate of 15% per annum. The programme was completed in December 2018.

What are the accounting implications of the issue above? Can you also clearly show any accounting adjustments required?

Answer 1

The issue is related to capitalisation of borrowing cost, which will have the following accounting implications,

1. The interest on specific borrowing will completely be capitalised and interest on general borrowing will be capitalised to the extent they are attributable to the current programme.
2. The remaining portion of interest will be treated as Expenses and transferred to the income statement.
3. So, the accounting treatment would be add the capitalised interest to the value of asset which will appear in the balance sheet, and
4. And treat the remaining interest on general fund as Expenses and transfer the same to income statement.

Further, as the rate of borrowing of specific fund is way higher than general fund which also may require disclosure under the notes to accounts.

As there is no information regarding how much is the borrowed amount, we can't be able to calculate the exact interest amount to be capitalised and the interest amount to be transferred to income statement.