Elena Castovan is a junior analyst with Contralith Capital, a long- only equity investment manager. She has been asked to value three stocks on Contraliths watch list: Portous, Inc. (PTU), SSX Financial (SSX), and Tantechi Ltd. (TTCI). During their weekly meeting, Castovan and her supervisor, Ariana Beckworth, discuss characteristics of residual income (RI) models. Castovan tells Beckworth the following. Statement 1 The present value of the terminal value in RI models is often a larger portion of the total intrinsic value than it is in other DCF valuation models. Statement 2 The RI models use of accounting income assumes that the cost of debt capital is appropriately reflected by interest expense. Statement 3 RI models cannot be readily applied to companies that do not have positive expected near- term free cash flows. Beckworth asks Castovan why an RI model may be more appropriate for valuing PTU than the dividend discount model or a free cash flow model. Castovan tells Beckworth that, over her five- year forecast horizon, she expects PTU to perform the following actions. Reason 1 Pay dividends that are unpredictable Reason 2 Generate positive and fairly predictable free cash flows Reason 3 Report significant amounts of other comprehensive income At the conclusion of their meeting, Beckworth asks Castovan to value SSX using RI models. Selected financial information on SSX is presented in Exhibit 1. Exhibit 1 SSX Financial (SSX) Selected Financial Data Total assets (millions) 4,000.00 Capital structure 60% debt/40% equity EBIT (millions) 700.00 Tax rate 35.00% Return on equity (ROE) 23.37% Pretax cost of debta 5.20% Cost of equity 15.00% Market price per share 48.80 Price- to- book ratio 2.10 a Interest expense is tax- deductible