Splitting Up Value: A Critical Review of Residual Income Theories

Carlo Alberto Magni

MPRA Paper from University Library of Munich, Germany

Abstract: This paper deals with the notion of residual income, which may be defined as the surplus profit that residues after a capital charge (opportunity cost) has been covered. While the origins of the notion trace back to the 19th century, in-depth theoretical investigations and widespread real-life applications are relatively recent and concern an interdisciplinary field connecting management accounting, corporate finance and financial mathematics (Peasnell, 1981, 1982; Peccati, 1987, 1989, 1991; Stewart, 1991; Ohlson, 1995; Arnold and Davies, 2000; Young and O'Byrne, 2001; Martin, Petty and Rich, 2003). This paper presents both a historical outline of its birth and development and an overview of the main recent contributions regarding capital budgeting decisions, production and sales decisions, implementation of optimal portfolios, forecasts of asset prices and calculation of intrinsic values. A most recent theory, the systemic-value-added approach (also named lost-capital paradigm), provides a dierent denition of residual income, consistent with arbitrage theory. En- folded in Keynes's (1936) notion of user cost and forerun by Pressacco and Stucchi (1997), the theory has been formally introduced in Magni (2000a,b,c; 2001a,b; 2003), where its properties are thoroughly investigated as well as its relations with the standard theory; two different lost-capital metrics have been considered, for value-based management purposes, by Drukarczyk and Schueler (2000) and Young and O'Byrne (2001). This work illustrates the main properties of the two theories and their relations, and provides a minimal guide to construction of performance metrics in the two approaches.

Keywords: Finance; accounting; residual income; excess profit; net present value; opportunity cost; counterfactual; performance measurement; management (search for similar items in EconPapers)
JEL-codes: D46 G11 G12 G3 G31 M21 M41 (search for similar items in EconPapers)
Date: 2008-09-11
New Economics Papers: this item is included in nep-acc and nep-cfn
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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https://mpra.ub.uni-muenchen.de/10506/1/MPRA_paper_10506.pdf original version (application/pdf)
https://mpra.ub.uni-muenchen.de/11398/1/MPRA_paper_11398.pdf revised version (application/pdf)
https://mpra.ub.uni-muenchen.de/13537/1/MPRA_paper_13537.pdf revised version (application/pdf)
https://mpra.ub.uni-muenchen.de/16548/2/MPRA_paper_16548.pdf revised version (application/pdf)

Related works:
Journal Article: Splitting up value: A critical review of residual income theories (2009)
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