Return predictability and shareholders' real options

Research output: Journal Publications and Reviews (RGC: 21, 22, 62)21_Publication in refereed journalNot applicablepeer-review

5 Scopus Citations
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Author(s)

  • Lee-Seok Hwang
  • Byungcherl Charlie Sohn

Related Research Unit(s)

Detail(s)

Original languageEnglish
Pages (from-to)367-402
Journal / PublicationReview of Accounting Studies
Volume15
Issue number2
Publication statusPublished - Jun 2010

Abstract

This study re-interprets the properties of the residual income model by highlighting the shareholders' abandonment (liquidation or adaptation) option. We estimate the value of this real option as an explicit component of abnormal earnings in the residual income model and test the improvement in valuation after incorporating it into the model. Relative to the traditional specification of the residual income model, this real options model has a stronger predictive power for future abnormal stock returns. We also find that the superior return predictability of the real options model is pronounced in the set of firms with a high probability of exercising liquidation options (for example, those with low profitability, low growth opportunities, high underlying asset volatility, and low intangible assets), which is consistent with the importance of shareholders' abandonment option in equity valuation. The results are robust to extensive sensitivity checks. © 2010 Springer Science+Business Media, LLC.

Research Area(s)

  • Abandonment (liquidation or adaptation) option, Abnormal earnings, Real options model, Residual income model, Return predictability

Citation Format(s)

Return predictability and shareholders' real options. / Hwang, Lee-Seok; Sohn, Byungcherl Charlie.

In: Review of Accounting Studies, Vol. 15, No. 2, 06.2010, p. 367-402.

Research output: Journal Publications and Reviews (RGC: 21, 22, 62)21_Publication in refereed journalNot applicablepeer-review