Can anyone explain what exactly this is and why this valuation method makes sense?
It takes the PV of residual income and distributes it among equity and debt investors. The claim on equity is the div payments and for debt both interest and principal. In theory its what claim investor classes have after equity investors have been compensated for their “equity charge.”
claims made by different parts - debt, equity should add up in the final analysis to what is done from either the dividend discount model, or from the residual income model. (which are looking at the enterprise purely from a equity point of view). ddm - dividends are paid - you value stock based on the dividends. ri -> ni - $wacc = RI. gives you value of equity. fcff -> gives you value of firm. reduce market value of debt -> get value of equity. fcfe -> gives you value of equity. each one of these methods has their own appropriate discount rates. in the claims valuation approach - the claimants to the firm -> are equity, debt… value from any other method above should equal what the claimants to the firm see…