# Accounting Exam ch.3

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1. Chapter 3
Capital Budgeting (Focusing on Cash Flows)
2. Time Value of Money
• •A dollar today is worth more than a dollar tomorrow
• •Opportunity cost related to having cash at different points in time
• •Basic computations to reflect this
• –Single period flow (see table on page 131)
• –Annuity (see table on page 132)
3. When determining Time Value of Money need to answer these two questions:
• 1) What is the interest rate we are assuming?
• 2) How far into the future?
4. Single period flow computation for TVM
Present value of \$1 received at the end of period n at an interest rate of i%
5. Annuity for TVM
We have uniform flows of money
6. Figures Are Cash Flows
• •You can spend cash
• •You cannot spend income
• •You can earn interest on cash
• •You cannot earn interest on income
7. When Do Flows Occur?
• •Present value computations assume flows occur at end of period
• •Compounding occurs at end of period
• •In most problems we will assume that the period is a
• year long
8. Complexities with Present Value
• - Taxes and depreciation tax shield
• - Inflation
• - If flows occur during the year
• - Risk
• - Discount Rates
9. Taxes and Depreciation Tax Shields
• –Reflects tax savings from being able to subtract
• depreciation in determining income tax.
• - You have to allocate these savings over time-not all at once
• - These are cash inflows
10. Capital Gains =
• = Present Market value - book value
• = sales price - book value
• * When replacing an old product, multiply by tax rate and subtract during year 0
11. Revenue =
Price per unit x units sold
12. depreciation =
(Original cost - salvage value) / useful life
13. Cash flow analysis for year zero
((negative)cost of new machine) + present market value of old machine - (capital gain x tax rate)
14. Cash flow analysis for years 1-4
• Rev - VC - Maintenance - property tax = BTNI
• BTNI x (1-TR) = ATNI
• ATNI + (depreciation x TR) = Cash flow/years 1-3

For year 4, add salvage value