Magazine for Senior Financial Executives: Present Value Revisited – Financial Accounting Standards Board suggestions

Present Value Revisited – Financial Accounting Standards Board suggestions – Brief Article

Steve Bergsman

Although present-value accounting measurement had been used throughout the 20th century, the rules to determine future cash flows have always been all over the map. The accounting profession basically “made up the rules as we went along,” observes Wayne Upton, a senior project manager at the Financial Accounting Standards Board.

In order to provide a clearer road map, FASB recently issued a “concept statement” on present-value accounting. The proposed statement would provide guidance on the “use of present-value techniques, especially when the amount of future cash flows, timing, or both, are uncertain,” explains Al Arcady, a partner with Ernst & Young LLP in New York. Specifically, says Arcady, FASB is proposing “an expected-cash-flows approach to determining present value, and tentatively has concluded that estimated cash flows should reflect the range of possible cash flows rather than a single, most-likely minimum or maximum possible amount.”

Companies commonly set a single base estimate of cash flows and then use a discount rate, or present value rate; which essentially encompasses all the different uncertainties about cash flows. “This means the riskier the cash flows, the higher the discount rate,” explains Dan Nail, technical manager of accounting standards at the New York-based American Institute of Certified Public Accountants.

While it still recognizes this approach, FASB offers a second method that recognizes cash flows as probability based. Noll says the cash-flows estimates would be figured by multiplying the probability percentages against the range of cash-flows estimates, and the sum would be the cash-flows estimate.

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