The financial position of a firm or a company is evaluated through accounting. As a discipline in business, accounting is undertaken using different assessment tools. These tools can be formulas, valuation models among others. The article discusses four accounting-based valuation models from a comparative dimension. All the four models are assessed and their reliability examined. In addition, the comparison is made empirically to ensure viability and validity of the preferred model. Accounting-based valuation models include the abnormal earnings growth (OJ) model, the dividend (DIV) model, and the residual income valuation model. The residual income (RIV) model is further divided into CT and GLS models.
Evaluating the effectiveness of the four models is based on where the models are derived from and the type of information they provide. Theoretically, the RIV and OJ models are derived from the discounted dividend (DIV) model or the discounted cash flow model. Although the article finally places the OJ model as the most reliable one, the authors are keen to point out that there is no definite way to comparatively assess the RIV and OJ models. The reason is that both models are derived from the same source of data/information/computation and, therefore, it is hard to establish an effective assessment basis.
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Means of Absolute Pricing Errors (MAPE) and its corresponding statistical data is the technique that is used in comparing the models. Since the DIV model acts as a ‘common denominator’ between the RIV (CT & GLC) and OJ models, the main comparison in the article is conducted between RIV and OJ. In addition to the MAPE technique, the article also uses Barrios and Blanco’s switching regression method. By employing this method, the authors prove that the average probability of using the OJ model is comparatively higher in giving the most accurate results. These results mainly pertain to the explanation of stock prices.
