Valuing the stock price of the industrial companies listed on the Nairobi Securities Exchange using the Residual Income Model
Wanjohi, Luke Wang'ombe
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The cross-sectional variation in stock returns due to the earnings announcement has gathered extensive research (Dimitropoulos & Asteriou, 2009) (Ball & Shivakumar, 2008) (Cohen, Dey, Lys, & Sunder, 2005) (Skinner & Sloan, 2002) (Beaver, 1968) as it is the primary mechanism through which public companies provide periodic financial performance updates to investors. Although earnings are one important determinant of stock prices, there are other accounting determinants, including balance sheet values (Dechow & Sloan, 2014). The balance sheet is an important source of information as it lists the assets (future economic benefits) and liabilities (future economic obligations) of the company. Lf the accounting process successfully identified all such benefits and obligations and valued them at their fair values, then the balance sheet itself would be sufficient for determining company value. The balance sheet, however, relies on amortized historical costs for many assets (e.g., property, plant and equipment) and ignores other assets altogether (e.g., internally generated intangibles). As a result, early research (Kormendi & Lipe , 1987) assumed that the balance sheet would be less relevant than the income statement for valuation (Dechow & Sloan, 2014).