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Net Present Value-Consistent Investment Criteria Based on Accruals: A Generalisation of the Residual Income-Identity

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  • Thomas Pfeiffer

Abstract

In recent years, many firms have favoured residual income for value based management. One main argument for this measure is its identity with the net present value rule and that this compatibility with the net present value rule holds true for all possible depreciation schedules selected. In this article, we analyse whether there are other, undiscussed, accrual accounting numbers that enable net present value-consistent investment decisions for all possible depreciation schedules. Our analysis provides an if-and-only-if characterisation of the entire class of net present value-consistent investment criteria, based on accounting information. This provides new insights into the residual income concept, hurdle rates, opening and closing error conditions achieved by applying more common performance measure structures, and allocation rules. Moreover, our analysis shows the limits of constructing such investment criteria. Copyright Blackwell Publishing Ltd, 2004.

Suggested Citation

  • Thomas Pfeiffer, 2004. "Net Present Value-Consistent Investment Criteria Based on Accruals: A Generalisation of the Residual Income-Identity," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 31(7-8), pages 905-926.
  • Handle: RePEc:bla:jbfnac:v:31:y:2004-09:i:7-8:p:905-926
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    References listed on IDEAS

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    1. Andrew W. Stark, 2000. "Real Options, (Dis)Investment Decision-Making and Accounting Measures of Performance," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 27(3-4), pages 313-331.
    2. Rogerson, William P, 1997. "Intertemporal Cost Allocation and Managerial Investment Incentives: A Theory Explaining the Use of Economic Value Added as a Performance Measure," Journal of Political Economy, University of Chicago Press, vol. 105(4), pages 770-795, August.
    3. Andrew W. Stark, 2000. "Real Options, (Dis)Investment Decision-Making and Accounting Measures of Performance," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 27(3&4), pages 313-331.
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    Cited by:

    1. 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.
    2. Roberto Ghiselli Ricci & Carlo Alberto Magni, 2014. "Axiomatization of residual income and generation of financial securities," Quantitative Finance, Taylor & Francis Journals, vol. 14(7), pages 1257-1271, July.
    3. Magni, Carlo Alberto, 2016. "Capital depreciation and the underdetermination of rate of return: A unifying perspective," Journal of Mathematical Economics, Elsevier, vol. 67(C), pages 54-79.
    4. Carlo Alberto Magni, 2009. "Accounting and economic measures:An integrated theory of capital budgeting," Centro Studi di Banca e Finanza (CEFIN) (Center for Studies in Banking and Finance) 0019, Universita di Modena e Reggio Emilia, Dipartimento di Economia "Marco Biagi".
    5. Carlo Alberto Magni, 2010. "Average Internal Rate of Return and investment decisions: A new perspective," Centro Studi di Banca e Finanza (CEFIN) (Center for Studies in Banking and Finance) 0021, Universita di Modena e Reggio Emilia, Dipartimento di Economia "Marco Biagi".
    6. repec:spr:jmgtco:v:28:y:2018:i:4:d:10.1007_s00187-018-0258-0 is not listed on IDEAS
    7. Baresa, Suzana & Bogdan, Sinisa & Ivanovic, Zoran, 2016. "Capital Investments And Financial Profitability," UTMS Journal of Economics, University of Tourism and Management, Skopje, Macedonia, vol. 7(1), pages 49-59.

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