Residual Income Valuation Model
The residual income model uses book value and return on equity to estimate the intrinsic value of a share.
It is derived by adding up the book value at the time of valuation and the present value of the residual income i.e the amount by which profits are expected to exceed the required rate of return on equity. This approach works typically for shares which have negative earnings, cash flow or does not pay out dividends.
The formula is given by:
Residual income= Net Income- Cost of Equity (Equity rate*total equity outstanding