Terminal

value
Getting Closure in Valuation: 3 approaches

TERMINAL VALUE

LIQUIDATION VALUE
MULTIPLE APPROACH GOING CONCERN VALUE
(SALVAGE VALUE)

Simple but not correct Assume the company will keep going
This approach is suitable
for private companies. forever. Terminal value = PV of a
growing perpetuity

E.g: P/E = 10 -> P= 10 x EPS

 GOING CONCERN VALUE
• If a company has an infinity cash flows, the firm value = PV (high growth CF) + Terminal
value

∞
High growing period Constant growing period
TV = PV( CFs in the constant growing period)

• Terminal value = PV ( CFs in constant growing period) = PV (constant growing perpetuity)

∑ $ %&!"#
• T𝑒𝑟𝑚𝑖𝑛𝑎𝑙 𝑣𝑎𝑙𝑢𝑒 = !"# (()*)$ = CFn+1/(r-gs)

%&$ -./01234 5346.

• 𝑉𝑎𝑙𝑢𝑒 𝑜𝑓 𝑎 𝑓𝑖𝑟𝑚 = ∑,
!"( +
(()*)$ (()*)%
Stable Growth and Terminal Value
• When a firm’s cash flow grows at a constant rate forever, the present value of those cash
flows can be written as:
Value = Expected Cash Flow Next Period/(r-g)
Where:
• r = Discount rate (Cost of Equity or Cost of Caital)
• g = Expected growth rate
• This constant growth rate is called a stable growth rate and cannot be higher than the
growth rate of the economy in which the firm operates
How high can the stable growth rate be?
• The stable growth rate cannot exceed the growth rate
of the economy but it can be set lower
• One simple proxy for the nominal growth rate of the
economy is the risk free rate
• Risk free rate = Expected inflation + Expected Real
Interest Rate
• Nominal growth rate in economy = Expected
inflation + Expected Real Growth Rate
When will the firm reach stable growth?
• Size: As firms become larger, it becomes much more difficult
for them to maintain high growth rates
• Current growth rate in sales: There is a correlation between
curren growth and future growth
• Barrier to entry and differential advantages
• High growth come from high project returns comes form
barriers to entry and differential advantages
• What, how long and how strong they will remain