Uncertainty in firm valuation and a cross-sectional misvaluation measure

Arbeitspapier

In all investment decisions it is important to determine the degree of uncertainty associated with the valuation of a company. We propose an original and robust methodology to company valuation which replaces the traditional point estimate of the conventional Discounted Cash Flow (DCF) with a probability distribution of fair values. It hinges on two main ingredients: an econometric model for the company revenues and a set of firm-specific balance sheet relations that are estimated using historical data. The effectiveness and scope of our methodology are explored through a series of statistical exercises on publicly traded U.S. companies. We show that an uncertainty-adjusted indicator of mispricing, derived from the fair value distribution, is capable of predicting future abnormal returns. Then, we construct a new long-short valuation factor and we test that it is not redundant for describing average returns when used to augment traditional market factor models.

Object Details

• Language: Englisch

References and Relationships

• Bibliographic citation: Series: LEM Working Paper Series ; No. 2020/15

Classification and Topics

• Classification: Wirtschaft ; Portfolio Choice; Investment Decisions ; Financial Forecasting and Simulation ; Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
• Subject: Stochastic Discounted Cash Flow ; Valuation Uncertainty ; Valuation Factor ; Kalman Filter

Contributors, Places and Time

• Event: Geistige Schöpfung
• (who): Bottazzi, Giulio ; Cordoni, Francesco ; Livieri, Giulia ; Marmi, Stefano
• Event: Veröffentlichung
• (who): Scuola Superiore Sant'Anna, Laboratory of Economics and Management (LEM)
• (where): Pisa
• (when): 2020

Further information

• Handle: http://hdl.handle.net/10419/228154
• Last update: 10.03.2025, 11:44 AM CET