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Residual income valuation models and inflation

Ashton, David J. and Peasnell, Ken V. and Wang, Pegguo (2011) Residual income valuation models and inflation. European Accounting Review, 20 (3). pp. 459-483. ISSN 0963-8180

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    Abstract

    Existing empirical evidence suggests that residual income valuation models based on historical cost accounting considerably underestimate equity values. One possible explanation is the use of historical cost accounting under inflationary conditions. In this paper, we use a residual income framework to explore theoretically how historical cost accounting numbers need to be adjusted for inflation in forecasting and valuation. We demonstrate that even in a simple setting where inflation is running at a relatively low level, residual income models are likely to produce severe under-valuations if inflation is not properly taken into account. We use simulated data to reinforce our theoretical findings and to illustrate the difficulties that empirical investigators face working within the confines imposed by real data.

    Item Type: Article
    Journal or Publication Title: European Accounting Review
    Subjects: UNSPECIFIED
    Departments: Lancaster University Management School > Accounting & Finance
    ID Code: 45609
    Deposited By: ep_importer_pure
    Deposited On: 11 Jul 2011 19:35
    Refereed?: Yes
    Published?: Published
    Last Modified: 09 Apr 2014 22:34
    Identification Number:
    URI: http://eprints.lancs.ac.uk/id/eprint/45609

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