Question:
Riverbed Company is constructing a building. Construction began on February 1 and was completed on December 31. Expenditures were $5,400,000 on March 1, $3,600,000 on June 1, and $9,000,000 on December 31. Riverbed Company borrowed $3,000,000 on March 1 on a 5-year, 12% note to help finance construction of the building. In addition, the company had outstanding all year a 10%, 5-year, $6,000,000 note payable and an 11%, 4-year, $10,500,000 note payable. Compute avoidable interest for Riverbed Company. Use the weighted-average interest rate for interest capitalization purposes.
Answer:
The total avoidable interest is $743,040.00
Explanation:
Here we have
Date Expenditure Period Portion
Mar-01 $5,400,000.00 10/12 $4,500,000.00
Jun-01 $3,600,000 7/12 $2,100,000
Dec-31 $9,000,000 0/12 $0
Total $6,600,000.00
The weighted average expenditure is $6,600,000.00
The weighted average rate using the notes payable loan is found by the following calculation
Type of loan Amount Interest rate Interest incurred
Loan $6,000,000 10% $600,000.0
Loan $10,500,000 11% $1,155,000.00
Total $16,500,000 $1,755,000.0
Weighted average rate = Total interest incurred / Total loans
Weighted average = 1755000/16500000 = 0.10636 = 10.64%
The general interest is found by subtracting the specific loan from the weighted average expenditure
General = Weighted average expenditure - Specific loan
General = $6,600,000.00 - $3,000,000 = $3,600,000.00
The avoidable interest is found by summing the specific interest to the weighted average interest as follows
Type of loan Amount Interest rate Interest incurred
Specific $3,000,000 12% $360,000.00
General $3,600,000 10.64% $383,040.0000
Total $743,040.00
The total avoidable interest = $743,040.00
