{"id":21037,"date":"2021-09-07T15:49:28","date_gmt":"2021-09-07T15:49:28","guid":{"rendered":"https:\/\/analystprep.com\/study-notes\/?p=21037"},"modified":"2024-04-06T02:57:37","modified_gmt":"2024-04-06T02:57:37","slug":"fundamental-determinants-of-residual-income","status":"publish","type":"post","link":"https:\/\/analystprep.com\/study-notes\/cfa-level-2\/fundamental-determinants-of-residual-income\/","title":{"rendered":"Fundamental Determinants of Residual Income (2022)"},"content":{"rendered":"<p><iframe loading=\"lazy\" src=\"\/\/www.youtube.com\/embed\/PBa-kWaY4gs\" width=\"611\" height=\"343\" allowfullscreen=\"allowfullscreen\"><span data-mce-type=\"bookmark\" style=\"display: inline-block; width: 0px; overflow: hidden; line-height: 0;\" class=\"mce_SELRES_start\">\ufeff<\/span><span data-mce-type=\"bookmark\" style=\"display: inline-block; width: 0px; overflow: hidden; line-height: 0;\" class=\"mce_SELRES_start\">\ufeff<\/span><\/iframe><\/p>\r\n\r\n<p>The fundamental drivers of residual income can be recognized by assuming a constant growth in dividends and earnings.<\/p>\r\n<p>Assuming constant growth, a stock\u2019s intrinsic value under the residual income model, can be expressed as:<\/p>\r\n<p>$$\\text{V}_{0}=\\text{B}_{0}+\\frac{\\text{ROE}-\\text{r}}{\\text{r}-\\text{g}}\\text{B}_{0}$$<\/p>\r\n<p>If the return on equity equals the required return on equity, the share&#8217;s intrinsic value will be equal to the book value. If the return on equity is greater than the required return on equity, the stock&#8217;s intrinsic value will be higher than the book value, and the justified P\/B ratio will be greater than 1. If the return on equity is less than the required return on equity, the stock&#8217;s intrinsic value will be less than the book value, and the justified P\/B ratio will be less than 1.<\/p>\r\n<blockquote>\r\n<h2>Question<\/h2>\r\n<p>Which of the following is <em>least likely<\/em> a fundamental driver of residual income?<\/p>\r\n<ol style=\"list-style-type: upper-alpha;\">\r\n\t<li>Constant growth in earnings.<\/li>\r\n\t<li>Constant growth in revenues.<\/li>\r\n\t<li>Constant growth in dividends.<\/li>\r\n<\/ol>\r\n<h3>Solution<\/h3>\r\n<p><strong>The correct answer is B.\u00a0<\/strong><\/p>\r\n<p>Constant growth in revenues is not a fundamental driver of residual income.<\/p>\r\n<p><strong>A is incorrect.\u00a0<\/strong>Constant growth in earnings is a fundamental driver of residual income.<\/p>\r\n<p><strong>C is incorrect.\u00a0<\/strong>Constant growth in revenues is a fundamental driver of residual income.<\/p>\r\n<\/blockquote>\r\n<p>Reading 26: Residual Income Valuation<\/p>\r\n<p><em>LOS 26 (d) Explain fundamental determinants of residual income.<\/em><\/p>\r\n","protected":false},"excerpt":{"rendered":"<p>\ufeff\ufeff The fundamental drivers of residual income can be recognized by assuming a constant growth in dividends and earnings. Assuming constant growth, a stock\u2019s intrinsic value under the residual income model, can be expressed as: $$\\text{V}_{0}=\\text{B}_{0}+\\frac{\\text{ROE}-\\text{r}}{\\text{r}-\\text{g}}\\text{B}_{0}$$ If the return on&#8230;<\/p>\n","protected":false},"author":5,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[102,401],"tags":[216,402,495,492],"class_list":["post-21037","post","type-post","status-publish","format-standard","hentry","category-cfa-level-2","category-equity-valuation","tag-cfa-level-2","tag-equity-valuation","tag-fundamental-determinants-of-residual-income","tag-reading-30-residual-income-valuation","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v26.9 - https:\/\/yoast.com\/product\/yoast-seo-wordpress\/ -->\n<title>Fundamental Determinants of Residual Income (2022) - CFA, FRM, and Actuarial Exams Study Notes<\/title>\n<meta name=\"description\" content=\"The fundamental drivers of residual income can be recognized by assuming a constant growth in dividends and earnings.\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, max-video-preview:-1\" \/>\n<link rel=\"canonical\" href=\"https:\/\/analystprep.com\/study-notes\/cfa-level-2\/fundamental-determinants-of-residual-income\/\" \/>\n<meta property=\"og:locale\" content=\"en_US\" \/>\n<meta property=\"og:type\" content=\"article\" \/>\n<meta property=\"og:title\" content=\"Fundamental Determinants of Residual Income (2022) - 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