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Decomposition of a Certain Cash Flow Stream: Differential Systemic Value and Net Final Value

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  • Magni, Carlo Alberto

Abstract

This paper proposes a new way of decomposing net present values and net final values in periodic shares. Such a decomposition generates a new notion of residual income, radically different from the classical one available in the financial and accounting literature. While the standard residual income is formally computed as profit minus cost of capital times actual capital invested, the new paradigm introduces a fourth element: the capital invested in the so-called shadow project. Such a capital is the counterfactual capital that the investor would own if, at time 0, he invested his funds at the cost of capital, rather than in the project. Two important features are found: in primis, the new residual income is obtained as the sum of the standard residual incomes and the interest earned on past standard residual incomes; in secundis, the new paradigm is shown to be additive: the net final value of the project is computed as the sum of all periodic shares (residual incomes) with no capitalization process (abnormal earnings aggregation). A generalization is provided for a levered portfolio of projects, and a fourthfold decomposition is reached: (i) periodic decomposition, (ii) opportunity account decomposition, (iii) project decomposition, (iv) financing decomposition.

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Bibliographic Info

Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 7308.

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Date of creation: May 2000
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Handle: RePEc:pra:mprapa:7308

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Related research

Keywords: net present value; net final value; decomposition; residual income; systemic value; finance; accounting; quantitative methods;

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Cited by:
  1. Magni, Carlo Alberto, 2010. "Residual income and value creation: An investigation into the lost-capital paradigm," European Journal of Operational Research, Elsevier, vol. 201(2), pages 505-519, March.
  2. Ghiselli Ricci, Roberto & Magni, Carlo Alberto, 2009. "Axiomatization of residual income and generation of financial securities," MPRA Paper 14438, University Library of Munich, Germany.
  3. Magni, Carlo Alberto, 2009. "Splitting up value: A critical review of residual income theories," European Journal of Operational Research, Elsevier, vol. 198(1), pages 1-22, October.
  4. Carlo Alberto Magni, 2007. "A Sum&Discount Method for Appraising Firms: An Illustrative Example," Department of Economics 572, University of Modena and Reggio E., Faculty of Economics "Marco Biagi".
  5. Magni, Carlo Alberto, 2001. "Valore Aggiunto Sistemico: un'alternativa all'EVA quale indice di sovraprofitto periodale," MPRA Paper 7525, University Library of Munich, Germany.
  6. Carlo Magni, 2005. "On Decomposing Net Final Values: Eva, Sva and Shadow Project," Theory and Decision, Springer, vol. 59(1), pages 51-95, 08.
  7. Magni, Carlo Alberto, 2000. "Systemic Value Added, Residual Income and Decomposition of a Cash Flow Stream," MPRA Paper 5900, University Library of Munich, Germany.

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