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Unformatted text preview: Valuation: Residual Income Model Residual Income Model This approach values residual or abnormal income available for equity holders Concept: If a firm can earn only a normal return on book value, then its worth only book value Worth more/less if return on BV is above/below normal What is residual income? Normal earnings are the expected earnings given a companys cost of equity capital. Residual income (or abnormal earnings) is the difference between the actual earnings and the expected earnings. residual income = (ROCE  rE) x book value Or, alternatively: expected earnings = book value x rE residual income = net income expected earnings Residual Income Valuation The Residual Income Model values equity directly in one step Value of Equity at time t = current book value plus sum of discounted future residual income + = + + 1 t t equity) of cost (1 ] year for income [residual E t time at Equity of Value Book Implementing RIM Valuation...
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 Fall '11
 Seybert
 Valuation

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