Do Managers and Stockholders Use the Appropreate Criterion to Measure the Performance of the Company and It's Value


The valuation of companies is often complicated by a failure to
understand how share prices are set. Many senior executive
believe that stock prices are set by some vague combination of
earnings, growth rates, returns, book values, cash flows, dividends
and trading volumes.
In this article two general models of valuation are introduced.
The firs t one is the accounting model which states that share
prices are determined by capitalizing a company earnings per
share (EPS) at an appropriate price / earnings muttiple (P/E).
The appeal of this accounting model is its simplicity. It's
shortcoming is an utter lack of realism
The second one is the economic model which states that share
prices are determined by smart investors who care about two
things: the cash to be generated over the life of a business and the
risk of the cash receipt.
The purpose of this article is to explain the deficiencies of the
accounting model and advantage of the economic model.