1. IAS 23 – Borrowing Costs

2. Academic Resource Center Long-term liabilities Page 2 Borrowing costs Borrowing costs primarily include interest on borrowings and other costs to acquire debt. Borrowing costs that are directly attributable to the acquisition, construction or production of a qualifying asset can be capitalized. Similar The qualifying asset must take a period of time to complete. IFRSUS GAAP Similar, although the period of time to complete should be “substantial.”

3. Academic Resource Center Long-term liabilities Page 3 Borrowing costs Interest capitalization commences and continues as long as expenditures and progress are made to get the asset ready for its intended use. Capitalizable interest is based on the specific borrowing, if available, or the weighted-average costs of the borrowings and cannot exceed actual interest for the period. Similar IFRSUS GAAP

4. Academic Resource Center Long-term liabilities Page 4 Borrowing costs IFRS ► Per IAS 23, entities may choose to capitalize or expense borrowing costs when the related assets are carried at fair value. ► When funds borrowed to finance the acquisition of a qualified asset are temporarily invested, the interest cost should be reduced by any investment income earned on these funds. US GAAP ► This issue is not discussed. ► Interest revenue cannot be netted against interest cost.

5. Academic Resource Center Long-term liabilities Page 5 Borrowing costs IFRS ► Exchange rate differences related to foreign currency borrowings, to the extent they are an adjustment to interest costs, can be capitalized according to IAS 23. US GAAP ► Exchange rate differences on borrowing costs cannot be included in capitalizable interest costs.

6. Academic Resource Center Long-term liabilities Page 6 Borrowing costs example Example 3 A large UK-based retail company, Harold’s Department Stores, Inc. (HDS), wishes to build a US distribution center on the East Coast. HDS has purchased a suitable piece of land, has arranged for a general contractor to construct the facility and has arranged for a construction loan from a US bank. The facility is expected to cost $30 million and take one year to build. The construction loan is $24 million, bears interest at 8% and borrowings commence at the first draw. Ground is broken on April 1, 2008, and construction is expected to continue until March 31, 2009. The Company uses $6 million of its cash in the first two months of construction and begins borrowing under the construction loan based on the schedule on the next slide. The US bank pays the draws on the loan to HDS in dollars. HDS carries its assets in pounds and the debt borrowings will be paid in pounds. HDS incurs exchange rate gains and losses as scheduled on the next slide.

7. Academic Resource Center Long-term liabilities Page 7 HDS temporarily invests the loan borrowings and receives quarterly interest as scheduled below. HDS secures permanent financing on April 1, 2009. Borrowing costs example Cash draws from construction loan Exchange rate loss Quarterly interest income received on loan borrowings for the previous quarter June 1, 2008$10,000,000$(50,000) September 1, 2008$ 6,000,000$(40,000)$50,000 January 1, 2009$ 8,000,000$(20,000)$75,000 April 1, 2009$25,000 What borrowing costs should HDS capitalize in 2008 and in the first quarter of 2009 using US GAAP and IFRS?

8. Academic Resource Center Long-term liabilities Page 8 Solution: Calculation of interest costs: 2008 ► First draw:$10,000,000 x 8% x 3/12 =$200,000 ► Second draw:$16,000,000 x 8% x 3/12 =320,000 $520,000 2009 ► Third draw:$24,000,000 x 8% x 3/12 =$480,000 US GAAP: HDS should capitalize $520,000 of borrowing costs in 2008 and $480,000 in the first quarter of 2009. IFRS: HDS should capitalize $485,000 ($520,000 + $90,000 exchange rate losses - $125,000 of interest income) of borrowing costs in 2008 and $475,000 ($480,000 + $20,000 exchange rate losses - $25,000 of interest income) of borrowing costs in the first quarter of 2009. Borrowing costs example

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