The Financial Valuation of the Return to Capital.

This paper examines cross-sectional evidence on the valuation of firms at different times to estimate the time discounts and risk adjustments necessary to explain observed market values. The authors describe the method of calculating the present discounted value of future cash flows for the 187 firms in their sample. This involves calculation of the age structure of each firm's capital, its current replacement value, and its rates of return for each firm for the 1958-1977 period. They also compute an aggregate series of gross and net rates of return and compare these estimates with those previously published. They then present the method for calculating the market values of firms. To explore the sensitivity of their results to variations in assumptions about expectations formation, they use ten different methods of forecasting future earnings. They report internal rate of return and the ratio of market value to present discounted value for several discount rates. Finally, they authors discuss the measurement and valuation of risk and report on regressions that attempt to explain the deviations of market value from present discounted value in terms of a variety of variables, including those attempting to measure inflation and accounting illusion.