Adjusted Interest Coverage

CFA Level II
#1

Hi All,

I am just going over a question that was in the CFAI Mock and was wondering about their calculation of the adjusted interest coverage ratio.

I know that you are supposed to add back the capitalized interest included in depreciation expense to the numerator (EBIT) and add back the capitalized interest to the denominator (interest expense), but can someone explain why CFAI calculated the unadjusted EBIT as follows:

EBIT: Sales-COGS-SG&A

Why is depreciation not taken out when originally?

#2

Bueller?

#3

I think they are just not showing you the depreciation not related to a lease at all. They are assuming the only depreciation you would have is from a finance lease and there isn’t any under an operating lease.

#4

tgile512 - are you referring to the Piezo question on CFAI mock A morning session?

if so I am too confused by the calculation of EBIT. Shouldn’t the formula be EBIT = Sales-COGS-SG&A-Depreciation

and then you adjust EBIT by adding back the part of the depreciation that’s attributable to the capitalized interest?

#5

I agree, the income statement gives you a full reconciliation of how Net Income was derived and doesn’t have any depreciation expense.

Then in the footnotes it mentions a depreciation expense for the year and expects us to use it in the calculation of EBIT.

Can anyone help us to understand this or is just an error? Is the depreciation expense embedded in any other component in the Income Statement?

This is 2014 Mock Version A Morning Session - Piezo question 4.

#6

Anyone can explain this? Why EBIT in this question does not include depreciation expense. I have a another question for question 6, "At the end of 2013, a test of impairment is required because events or changes in circumstances indicate that its carrying amount may not be recoverable.” I didnt see in the paragraph that there would be an events that will indicate carrying amount may not be recoverable.

#7

For Q4, I suspect the depreciation expense is already included in the IS, but they didn’t show it there.

For Q6 you have to test for impairment, under US GAAP, Carrying Amount > Undiscounted CF = impaired. That’s why you write down assets to fair value.

#8

Anyone shed any light on this? How can we be assumed to know that the original dep expense is already factored in when it’s not actually shown on the I/S???