Valuation Techniques: Discounted Cash Flow, Earnings Quality, Measures of Value Added, and Real Options

COMPARISON OF ALTERNATIVE PERFORMANCE MEASURES

The ultimate test of a measure of performance for a publicly traded firm is its stock price—the market’s collective judgment of the value of the company’s ownership interests. Therefore, our evaluation uses market performance measures as a benchmark.45 We believe that the goal of a firm’s management should be to maximize shareholder wealth. To that end, the performance of any firm should be judged using some type of share price performance measures. In this section, we compare both the traditional and recently developed value-added measures with share price performance to gauge how well these measures reflect the market’s assessment of performance.46 We cannot directly test how well these measures assess the performance of a particular division, product line, or manager, but we can examine how these measures assess the performance of a firm compared with market measures of performance, thus providing information on their usefulness.

The Sample

The empirical comparisons require stock price and financial statement data. Financial statement data are taken from Standard & Poor’s Compustat, and stock price data are taken from the University of Chicago’s Center for Research in Security Prices (CRSP) databases. Several sample years are selected to examine the robustness of these measures for different market and economic environments. We chose five sample years, 1988 through 1992.

The sample contains companies that satisfy the following criteria: ...