Going through the EOC’s in FRA today…
Question 8 in SS 5 Rdg 18 - about capitalizing interest costs.
The vignette tells you that one company is building a plant and capitalized its construction costs. The question asks whether the decision to capitalize interest costs instead of expensing them will impact the interest coverage ratio, the fixed asset turnover ratio, or both.
I answered that it would affect both, if you changed the accounting method more interest expense would show up on the income statement, right? The answer says that it only affects fixed asset turnover. The whole point of ever bringing this issue up is that it helps firms avoid the appearance of a bunch of interest expense on the income statement. The explanation talks about how you use interest payments, not int expense in the denominator. This is news to me.
Anyone with an explanation?