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  • 65 A Closer Look at Terminal Value

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    Leonardo Vettorazzo
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    The document discusses two approaches to calculating terminal value in a discounted cash flow model: 1) The perpetual growth model, which assumes the company will generate cash flows indefinitely at a sustainable long-term growth rate. This allows calculation of terminal value as a perpetuity. 2) The exit multiple approach, which assumes the company is sold at the end of the forecast period at a multiple of a financial metric like EBITDA. Calculating terminal value using both approaches and comparing the results acts as a reality check on the valuation model. The terminal value can represent a significant portion of overall valuation given most DCF models only cover 3-5 years.

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    The document discusses two approaches to calculating terminal value in a discounted cash flow model: 1) The perpetual growth model, which assumes the company will generate cash flows indefinitely at a sustainable long-term growth rate. This allows calculation of terminal value as a perpetuity. 2) The exit multiple approach, which assumes the company is sold at the end of the forecast period at a multiple of a financial metric like EBITDA. Calculating terminal value using both approaches and comparing the results acts as a reality check on the valuation model. The terminal value can represent a significant portion of overall valuation given most DCF models only cover 3-5 years.

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    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Flag for inappropriate content
    5 views11 pages

    65 A Closer Look at Terminal Value

    Uploaded by

    Leonardo Vettorazzo
    The document discusses two approaches to calculating terminal value in a discounted cash flow model: 1) The perpetual growth model, which assumes the company will generate cash flows indefinitely at a sustainable long-term growth rate. This allows calculation of terminal value as a perpetuity. 2) The exit multiple approach, which assumes the company is sold at the end of the forecast period at a multiple of a financial metric like EBITDA. Calculating terminal value using both approaches and comparing the results acts as a reality check on the valuation model. The terminal value can represent a significant portion of overall valuation given most DCF models only cover 3-5 years.

    Copyright:

    © All Rights Reserved
    Download as PDF, TXT or read online from Scribd
    Flag for inappropriate content
    of 11

    A Closer Look at

    Terminal Value
    A Closer Look at Terminal Value

    ❖ The Terminal Value is


    a simple way to
    capture the value of
    cash flows which
    occur beyond the time
    frame of a DCF Model
    A Closer Look at Terminal Value

    ❖ There
    are two
    approaches:
    ❖ Perpetual Growth
    ❖ Exit Multiple
    A Closer Look at Terminal Value
    ❖ ThePerpetual Growth
    method is a more
    academic approach
    ❖ TheExit Multiple
    method is more
    appropriate to real
    world situations
    A Closer Look at Terminal Value
    ❖ As a DCF model normally
    covers 3-5 years, exceptionally
    10, the Terminal Value can
    make up a significant part of
    the total valuation
    ❖ Forthis reason it is important
    to understand both
    approaches
    A Closer Look at Terminal Value

    ❖ The Perpetual Model


    assumes that the
    company will continue
    to generate cash flow
    in perpetuity at a
    sustainable growth rate
    A Closer Look at Terminal Value
    ❖ The
    formula for the Perpetual
    Growth Terminal Value is:
    ❖ TV = Terminal Value ❖ TV= (FCFn x
    ❖ FCF = Free Cash Flow
    ❖n = Year 1 of terminal value or final (1+g) / (WACC -
    year of model
    ❖g = perpetual growth rate of FCF g)
    ❖ WACC = Weighted Average Cost fo
    Capital
    A Closer Look at Terminal Value
    ❖ ThePerpetual Growth rate may actually
    vary depending on the position of the
    company in its lifecycle
    ❖ Expansion

    ❖ Maturity

    ❖ Decline

    ❖ It
    is possible to construct a multi-stage
    perpetual growth rate model if this is
    regarded as having a significant
    impact on the Terminal Value
    A Closer Look at Terminal Value
    ❖ The Exit Multiple approach assumes
    that a sale has taken place at a
    multiple of a financial metric
    ❖ Themost often cited metric is
    EBITDA
    ❖ The Multiple can be any multiple
    that seems reasonable to the market
    and appropriate to the company -
    comparable transactions can give
    guidance to this
    A Closer Look at Terminal Value
    ❖ Inpractice, you can calulate
    your model on both bases to
    establish the range of values
    generated between them
    ❖ You can also use the Perpetual
    Method to derive a comparable
    Multiple and vice versa, to act
    as a reality check on your model
    A Closer Look at
    Terminal Value

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