Questions From Mock 2

Question 53: Is interest expense overstated for zero coupon bonds? I know that it is for discount bonds, but when I look at P: 473 (CFAI book), I do not see that happening for zero coupon bond, though… Question 64: When we convert capitalized expense into operating, we have to subtract the amount capitalized from the asset, right? CFAI solution did not do that while calculating ROA…Do you know why? Thanks!

  1. understated 64. I think so.

What is answer for the first one? Interest expense is what it should be . It is only CFO that is understated. S

  1. The answer is not clear, therefore I could not understand :frowning:

I guess nobody knows whether interest expense is overstated for zero coupon bonds…???

I think it’s understated because you aren’t making periodic interest payment therefore less interest expense —> understated interet expense = understated CFO - VERY overstaed

you are making periodic interest payments that accrue to a liability, aren’t you? or is it an amortization charge? i think interest expense is understated for the fact that the bond is issued at a deep discount, and a coupon-bearing bond with the same YTM will have a higher book value and therefore a higher ytm*value = interest expense

you still make an interest expense on the income statement though. However, given that the liability is lower to begin with when compared to a straight bond, the interest expense will be lower. I am not necesaarily sure that this means that interest expense is understated. If i remember correctly, I think i put the answer that CFO is overstated but interest is not understated.

discount bonds understate interest expense and CFO is overstated…per schweser Zero coupon - Deep discount which makes it even worse

so because the interest expenses on the income statement are lower, we would classify that as being “understated”