Chapter_16 - Chapter 16 Creating Accounting Value and...

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Chapter 16 16 Creating Accounting Value and Economic Value
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Creating Accounting Value and Economic Value
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What you will learn in this chapter What you will learn in this chapter How rates of return and residual earnings can be created by accounting methods How growth in earnings, growth in residual earnings, and abnormal earnings growth can be created by accounting methods The difference between economic value added and accounting value added How appropriate valuation techniques produce valuations that are not affected by accounting methods How P/E and P/B ratios are affected by accounting methods How accounting methods affect continuing value calculations What are "conservative" accounting and "liberal" accounting and how they affect valuation How firms create and release hidden reserves Accounting methods should not affect the value of a firm, so how can accounting-based valuation techniques produce valuations that are not affected by the accounting?
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Two Accounting Treatments for a Two Accounting Treatments for a Project Project Investment in project $ 400 Required return 10% Project life 2 years Treatment 2 is conservative accounting
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Projects: Accounting Effects Projects: Accounting Effects and Valuation Effects and Valuation Effects Accounting Effects: Residual earnings and RNOA can be created by the accounting Valuation Effects: Residual earnings created by the accounting does not affect the valuation Distinguish: Economic value added Accounting value added Economic value added is measured with residual earnings techniques irrespective of the accounting: the value conservation principle
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Neutral Accounting, Conservative Neutral Accounting, Conservative Accounting and Liberal Accounting Accounting and Liberal Accounting Neutral (Unbiased or Normal) Accounting : yields expected RNOA equal to the cost of capital when operations add no value Conservative Accounting : yields expected RNOA greater than the cost of capital when operations add no value Liberal Accounting : yields expected RNOA less than the cost of capital when operations add no value The funny thing about conservative accounting: it makes firms look more profitable than they are
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Going Concerns with Constant Investment: Neutral Accounting
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Valuation: Constant Investment with Neutral Accounting Value = 400 (book value) Value= (capitalized forward earnings) = 400 10 . 0 40
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Going Concerns with Constant Going Concerns with Constant Investment: Conservative Accounting Investment: Conservative Accounting
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Valuation: Constant Investment with Conservative Accounting 400 /1.10 0.10 6 1.10 16 360 = + - = REOI Value AOIG Value 400 1.10 22 20 0.10 1 = + =
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Going Concerns with Constant Going Concerns with Constant Investment: Accounting Effects and Investment: Accounting Effects and Valuation Effects Valuation Effects Accounting Effects : 1. Operating income is not affected by the accounting once a
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Chapter_16 - Chapter 16 Creating Accounting Value and...

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