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FINANCIAL INFORMATION ANALYSIS ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Construct a two-period numerical example to show that the accounting-based valuation of a firm is the same whether RD is capitalized or expensed. ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Consider RD Inc., a biotech start up. This firm: Incurs expenditures in RD of $50 in the first year of activity; Has an opening book value of equity of $1,000; Generates income (before RD expenses) of $200 in year 1 and $220 in year 2, at the end of which it is liquidated; Has a cost of equity capital of 10%; Pays no dividends prior to liquidation; Show that the PVAE obtains regardless of whether RD Inc. expenses RD expenditure as incurred or capitalizes and amortizes RD expenditure! ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Expensing RD As Incurred Assume that the RD expenditure is expensed at the end of year1: And Thus: PVAE = 1132.2  ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Capitalising And Amortising RD (1) Assume that the RD expenditure is capitalised and amortised linearly: RD expense recognised at end of year 1: 25; RD expense recognised at end of year 2: 25; And thus: PVAE = 1132.2 ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Capitalising And Amortising RD (2) Assume that the RD expenditure is capitalised and amortised as follows: RD expense recognised at end of year 1: x; RD expense recognised at end of year 2: 50-x;  ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 2 Capitalising And Amortising RD (3) As: PVAE is thus independent of x and hence accounting policy for RD expenditure! FINANCIAL INFORMATION ANALYSIS ACCOUNTING-BASED VALUATION TECHNIQUES Application Exercises Question 3 Explain why terminal values in accounting-based valuation are significantly less than those for DCF valuation. ACCOUNTING-BASED VALUATION TECHNIQUES Applicat