Reconciliation of Residual Income and Free Cash-Flow Valuation Models
May 21, 2009
Ohlson & Juettner-Naworth (2005) show, using a “scheme” developed in Ohlson 1998, 2000, that one can derive the residual income model from the discounted dividend model. However, their method involves the condition that an infinite sum (book value per share) divided by the infinite sum of discount factors will converge towards zero (“mild transversality condition”). Mathematically this needs not be the case as infinity divided by infinity is indeterminate. The following presents two reconciliation methods which are free from the convergence assumption.
Number of Pages in PDF File: 1
Keywords: Residual income, free cash flow, mild transversality
Date posted: October 24, 2009