Study session 12, chapter 38, Residual income, Persistence factor: [for those with Schweser Qbank. It’s based on question #104151 which I think have wrong answer. I agree on the formula and the numbers, but I don’t get same answer (1,37)]
My problem is to calculate Present Value of continuing Residual Income (PVcRI)
I illustrate it with my own made up problem:
For the next two years we expect ROE of 10%. Our required rate of return is 8%. Current book value is $100 and we pay no divident. After two years we expect RI to decline with a persistence factor of 40%.
B0 = 100 B1 = 110 ROE = 10 ROE = 11 r = 8 r = 8,8 RI = 2 RI = 2,2
PV of year 1 = 1,86 PVcRI = 2,12 = [2,2 / (1+0,08-0,04)] / (1+0,08)^1 Total PV of residual income = 3,98
Would you get same answer?
I use following formula for PV of year 1 = RI1 / (1+r)^1****PVcRI = [(RI2) / (1+r-w)] / (1+r)^1see Schweser p.242
RI = Residual Income r = required rate of return w = persistence factor