Chapter 6 Notes

Chapter 6 Notes - Chapter 6: Accounting and the Time Value...

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Chapter 6: Accounting and the Time Value of Money Basic Time Value Concepts - Time Value of Money - indicates a relationship between time and money – that a dollar received today is worth more than a dollar promised at some time in the future o Because of the opportunity to invest today’s dollar and receive interest on the investment o Investors use the concept of present value, which has many applications in accounting Applications of Time Value Concepts - Financial reporting uses different measurements in different situations o Historical cost for equipment o Net realizable value for inventories o Fair value for investments - Most useful fair measures are based on market prices in active markets - For some information market-based value information is not readily available; in these cases fair value can be estimated based on the expected future cash flows related to the asset or liability o Often considered level 3 (least reliable) - Present Value-Based Accounting Measurements o Notes - valuing noncurrent receivables and payables that carry no stated interest rate or a lower than market interest rate
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o Leases - valuing assets and obligations to be capitalized under long-term leases and measuring the amount of the lease payments and annual leasehold amortization o Pensions and Other Postretirement Benefits - measuring service cost components of employers’ postretirement benefits expense and postretirement benefits obligation o Long-Term Assets - evaluation alternative long-term investments by discounting future cash flows. Determining the value of assets acquired under deferred payment contracts. Measuring impairments of assets. o Stock-Based Compensation - determining the fair value of employee services in compensatory stock-option plans o Business Combinations - determining the value of receivables, payables, liabilities, accruals, and commitments acquired or assumed in a “purchase” o Disclosures - measuring the value of future cash flows from oil and gas reserves for disclosure in supplementary information o Environmental Liabilities - determining the fair value of future obligations for asset retirements - In addition to accounting and business applications, compound interest, annuity, and present value concepts apply to personal finance and investment decisions The Nature of Interest - Interest - payment for the use of money, excess cash received or repaid over and above the principle - How is the interest rate determined? o One important factor is the level of credit risk involved - Amount of interest involved in any financing transaction is a function of 3 variables: Page 2 of 15
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1) Principal - amount borrowed or invested 2) Interest Rate - a percentage of the outstanding principal 3) Time - number of years or fractional portion of a year that the principal is outstanding - Following 3 relationships apply: o The larger the principal amount, the larger the dollar amount of interest o The higher the interest rate, the larger the dollar amount of interest o
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This note was uploaded on 02/22/2011 for the course BUAD 362 taught by Professor Frazer during the Spring '10 term at Millersville.

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Chapter 6 Notes - Chapter 6: Accounting and the Time Value...

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