Question

A.

Calaveras Tire exchanged equipment for two pickup trucks. The book value and fair value of the equipment given up were $20,000 (original cost of $65,000 less accumulated depreciation of $45,000) and $17,000, respectively. Assume Calaveras paid $8,000 in cash and the exchange has commercial substance.

(1) At what amount will Calaveras value the pickup trucks?
(2) How much gain or loss will the company recognize on the exchange?

B.

A company constructs a building for its own use. Construction began on January 1 and ended on December 30. The expenditures for construction were as follows: January 1, $500,000; March 31, $600,000; June 30, $400,000; October 30, $600,000. To help finance construction, the company arranged a 7% construction loan on January 1 for $700,000. The company’s other borrowings, outstanding for the whole year, consisted of a $3 million loan and a $5 million note with interest rates of 8% and 6%, respectively.

Assuming the company uses the specific interest method, calculate the amount of interest capitalized for the year.

C.

Maxtor Technology incurred the following costs during the year related to the creation of a new type of personal computer monitor:

Salaries $ 220,000

Depreciation on R&D facilities and equipment 125,000

Utilities and other direct costs incurred for the R&D facilities 66,000

Patent filing and related legal costs 22,000

Payment to another company for performing a portion of the development work 120,000

Costs of adapting the new monitor for the specific needs of a customer 80,000

What amount should Maxtor report as research and development expense in its income statement?

Answer 1

ANSWER A

Book value of equipment given up = $20,000 (original cost of $65,000 less accumulated depreciation of $45,000)

Fair value of equipment given up = $17,000

Assuming that Calaveras paid $8,000 in cash

(1) Amount at which Calaveras will value the pickup truck

Value of Pickup trucks = Fair value of machinery + cash received

The fair market value of the equipment given up was of $17,000 and even $8,000 were paid in cash for an even exchange so the value of trucks would have been

$17,000 + 8,000 = $25,000

(2) Amount of gain or loss the company recognize on the exchange


The exchange encountered a loss as

Original cost of Equipment = $65,000

Less: Accumulated depreciation = ($20,000)

Book value of Equipment = $20,000

Less: Fair Value of Equipment = ($17,000)

Loss on exchange = $3,000

ANSWER B

Calculating the amount of interest capitalized for the year.

Procedure (i) Calculating Actual interest

Type of Loan	Date	Amount of Loan ($)	Rate of Interest	Time period	Interest
Construction loan	1st of Jan	7,00,000	7%	12	49,000
General	Whole Year	30,00,000	8%	12	2,40,000
General	Whole Year	50,00,000	6%	12	3,00,000
Total		87,00,000			5,89,000

Procedure (ii) - Calculating the Weighted Average Interest Rate for Other Borrowing
Loan	Other Borrowings(A) $	Interest Rate (B)	Interest Amount (A*B)
a	30,00,000	0.08	2,40,000
b	50,00,000	0.06	3,00,000
Total	80,00,000		5,40,000

Weighted Average Interest Rate for Other Borrowings = 540,000 / 80,00,000

    = 0.06750

Procedure (iii) Weighted Average Accumulated Expenditure
Expenditure Date	Total Period	Time period (no. of days)	Expenditure Amount	Weighted Average
1st JAN	1st JAN - 30 MARCH	365	5,00,000	5,00,000.00
31st MARCH	31st MARCH - 29th JUNE	276	6,00,000	4,53,698.63
30th JUNE	30th JUNE - 29th OCTOBER	185	4,00,000	2,02,739.73
30th OCTOBER	30th OCTOBER - 31st DECEMBER	63	6,00,000	1,03,561.64
Total			21,00,000	12,60,000

Procedure (iv) Calculation of Avoidable Interest
Type of Loan	Expenditure	Rate of Interest	Avoidable Interest
Construction	7,00,000	7%	49,000
General	5,60,000	6.75%	37,800
Total	12,60,000		86,800

Procedure (v) Capitalisation of Interest
Lower of Actual Interest and Avoidable Interest
Procedure (i)	5,89,000	Final Answer	86,800
Procedure (iv)	86,800

so , interest capitalized for the year is $86,800

ANSWER C


Details given in the question

Salaries = $220,000

Depreciation on R&D facilities and equipment = $125,000

Utilities and other direct costs incurred for the R&D facilities = $66,000

Patent filing and related legal costs = $22,000

Payment to another company for performing a portion of the development work
= $120,000

Costs of adapting the new monitor for the specific needs of a customer = $80,000

AMOUNT TO BE REPORTED AS RESEARCH AND DEVELOPMENT EXPENSE UNDER THE INCOME STATEMENT

Salaries = $220,000
Depreciation on R&D facilities and equipment = $125,000
Utilities and other direct costs incurred for the R&D facilities = $66,000
Payment to another company for performing a
portion of the development work = $120,000

AMOUNT TO BE REPORTED AS
RESEARCH AND DEVELOPMENT EXPENSE = $531,000

REASON

Patent cost and the cost for adapting the new monitor for the specific needs of a customer are not considered as research and development expense because these costs or expenses are not incurred with relation to research or development activities for firms products or services that the firm deals in currently.