Explain the theory behind the residual income valuation approach. Why is residual income value relevant to common equity shareholders? So, if a firm’s residual income for a particular year is positive, does that mean the firm was profitable? Explain. If a firm’s residual income for a particular year is negative, does that mean the firm necessarily reported a loss on the income statement? Explain. What does it mean when a firm’s residual income is zero?
In conceptual terms, explain the value-to-book valuation approach. Explain how the value-to-book approach described and demonstrated relates to the residual income valuation approach.