For residual income valuation, I understand that the value of a security is equal to the book value of the security plus all future discounted residual income flows.
This all makes sense to me except one thing. Book value is used to both determine the economic profit and the value of the firm. Why wouldn’t market value be used in both of these cases?
If we had a firm that is only expected to return the cost of equity, and as such will have no future economic profit, that would mean according to this model the value of the firm will be simply book value. However, doesn’t it make more sense that if there are no future economic profits that the value of the firm should be the market value of equity? Why would book value be a better representation of a security’s value when it doesn’t account for so many important parts of a stock’s value? (like strength of brand and position in industry etc…)