Rating to economic profit: Valuation properties, implementation issues, and the justification of target prices

Articles

Rating to economic profit: Valuation properties, implementation issues, and the justification of target prices

Published in: Investment Analysts Journal
Volume 53 , issue 2 , 2024 , pages: 142–166
DOI: 10.1080/10293523.2023.2269669
Author(s): Apostolos Ballas Athens University of Economics and Business, Greece , Grigoria Chlomou Edinburgh Napier University, UK , Efthimios Demirakos Athens University of Economics and Business, Greece

Abstract

This study offers a comprehensive theoretical and empirical analysis of a fundamentals-based investment criterion (HSBC’s Rating to Economic Profit – REP). By employing a large sample of US-listed firms over a 12-year time-period and conducting univariate, multivariate and portfolio analyses, we provide robust empirical results that support the ability of REP to explain contemporaneous stock market valuations, justify financial analysts’ target prices, and predict one-year ahead stock returns. Through content analysis of selected financial analysts’ equity research reports, we also provide some descriptive evidence of the usefulness of accrual accounting numbers over dividends for valuation purposes. To the best of our knowledge, this is the first academic study that offers a comprehensive analysis of REP as a value-based stock screening method that should be of interest to market-based accounting researchers, valuation educators, and capital market participants.

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