Residual Income (from CFAI Qbank)

CFA Level II Equities
#1

From the vignette, “Raman collects additional data for valuing PBRI using the multistage RI model. For this model, he assumes an annual growth rate of residual income of 15% during the forecast horizon of 5 years (Years 1 to 5) and discounts the terminal year’s residual income as a perpetuity.” The question asks for the discounted value of terminal RI in Year 5.

I am not sure what year to use to discount the terminal RI back to the present. PV of cont. RI in year T-1 = RI in year T/(1+r-w)

I thought T was 5, hence the discounting year of 4. But the answer discounted RI back 5 years. What am I missing here?

#2

Should be just like discounting CF’s with free cash flow model / Gordon growth model. You calculate the terminal value off of the last year of projected CF when long-term growth is expected to be achieved. Then you discount back using a discount factor based on the time period you determined the terminal value, in the case of your example, year 5.