Specific Method Vs Weighted Average

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    Hello…Need your help…I rephrased it a bit to do a bit less of a mind twist as you read it.

    “Question 4
    Which of the following accounting strategies (for financial reporting purposes) [is least likely to help] a firm that is currently only marginally fulfilling the quantitative measures (all involving earnings) of its debt covenants?

    Using straight-line depreciation. [will help]

    Changing to FIFO [will help]

    Using the weighted average method for capitalizing interest during times of reduced interest rates, rather than the specific method. [will help – maybe they mean, it might help a little?]

    Changing to the successful efforts method of accounting for natural resource exploration costs.[won't help – correct answer]

    Why would weighted average method help to have higher earnings? Capitalizing lower interest rates – doesn't that result in expensing the higher interest?

    This is their explanation for why weighted average will help if interests rates are on the decline – and it confused me even more, made my brain hurt

    “The specific method first capitalizes the interest on specific debt. With interest rates on the decline, interest on lower rate debt is capitalized and more is expensed, relative to the weighted average method, which capitalizes at the average rate over all debt. The weighted average method would capitalize more interest on older (higher interest) rate debt, thus reducing the current amount of interest expense and increasing earnings. Increasing earnings reduces the risk of noncompliance for this firm. “

    “The strongest of all warriors are these two — Time and Patience.” ― Leo Tolstoy (War and Peace)
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