Using Accounting Information for Consumption Planning and Equity Valuation

36 Pages Posted: 31 Aug 2006  

Kenton K. Yee

Mellon Capital Management

Multiple version iconThere are 2 versions of this paper

Date Written: August 30, 2006

Abstract

This article develops a consumption-based valuation model that treats earnings and cash flow as complementary information sources. The model integrates three ideas that do not appear in traditional valuation models: (i) earnings provide information about future shocks to cash flow; (ii) earnings contain indiscernible transient accruals; and (iii) investors use cash flow and earnings to make allocation and consumption decisions and set price. Accordingly, the quality of earnings affects production and consumption as well as price. Among other implications, the model reveals that a valuation coefficient is not just a capitalization factor; it is the product of a capitalization factor and a structural factor reflecting earnings quality and accounting bias.

Keywords: earnings quality, CAPM, equity risk premium, DCF, resource allocation

JEL Classification: D51, E21, G12, G14, M21, M41

Suggested Citation

Yee, Kenton K., Using Accounting Information for Consumption Planning and Equity Valuation (August 30, 2006). Available at SSRN: https://ssrn.com/abstract=927331 or http://dx.doi.org/10.2139/ssrn.927331

Kenton K. Yee (Contact Author)

Mellon Capital Management ( email )

50 Fremont Street, #3819
San Francisco, CA 94105
United States
415-975-3565 (Phone)

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