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Equity valuation models and target price accuracy in Europe: Evidence from equity reports

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  • Imam, Shahed
  • Chan, Jacky
  • Shah, Syed Zulfiqar Ali
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    Abstract

    This study examines whether European investment analysts prefer cash flow based valuation models over accrual based models, how accurate valuation models are and whether the use of cash flow based models (with or without accrual based models) improve forecast accuracy. We conduct a comprehensive content analysis of equity research reports for most of the firms on the components list of the Dow Jones Euro Stoxx 50 Index. We find that earnings multiples and the discounted cash flow (DCF) valuation models are the two most popular valuation models and the use of accrual based multiple alongside a cash flow based model improves the forecast error and this is in line with the intuition that accruals add value relevant information to cash flows. However, we also find that neither cash flow nor earnings multiples are superior to book value and return on equity (ROE) based models in terms of forecast error. Our results provide support for the use of book value and ROE based models which provide more precise forecasts and this, in turn, supports the use of accounting based models, i.e., a residual income model.

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    File URL: http://www.sciencedirect.com/science/article/pii/S1057521913000173
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    Bibliographic Info

    Article provided by Elsevier in its journal International Review of Financial Analysis.

    Volume (Year): 28 (2013)
    Issue (Month): C ()
    Pages: 9-19

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    Handle: RePEc:eee:finana:v:28:y:2013:i:c:p:9-19

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    Web page: http://www.elsevier.com/locate/inca/620166

    Related research

    Keywords: Accuracy; Analysts; Analysts' reports; Valuation models; Target price;

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