![]() Capex as a percentage of revenue ranges near the lower end of what is typical in the company’s industry (i.e., the majority of Capex is now maintenance-related).Depreciation becoming close to equaling Capex (i.e.Otherwise, the implicit assumption of an excessively high growth rate (i.e., >5%) is that the company is on track to someday outpace the growth of the global economy – which is clearly an unrealistic scenario.Ĭlosely tied to the revenue growth, the reinvestment needs of the company must have also normalized near this time, which can be signified by: The long-term growth rate assumption should generally range between 2% to 4% to reflect a realistic, sustainable rate. ![]() Given how the TV accounts for a substantial portion of a company’s valuation, the terminal year must not be distorted by cyclicality or seasonality patterns. Often, GDP growth or the risk-free rate can serve as proxies for the growth rate. The long-term growth rate should theoretically be the growth rate that the company can sustain into perpetuity. One of the first steps to building a DCF is projecting the company’s future FCFs until its financial performance has reached a normalized “steady state”, which subsequently serves as the basis of the terminal value under the growth in perpetuity approach. Here, the terminal value is calculated by treating a company’s terminal year FCF as a growing perpetuity at a fixed rate. The growth in perpetuity approach attaches a constant growth rate onto the forecasted cash flows of a company after the explicit forecast period. Terminal Value Formula: Growth in Perpetuity Approach In practice, there are two widely used calculation methods: The accuracy of cash flow forecasts tends to become less reliable the further into the future one goes.īut eventually, simplified high-level assumptions become necessary to capture the lump sum value at the end of the forecast period. Since it is not feasible to project a company’s FCF indefinitely, the standard DCF model is made up of two “parts”: The premise of the DCF approach states that an asset (the company) is worth the sum of all of its future free cash flows (FCFs) – which are discounted to the present day to account for the “time value of money” (i.e., $1 received today is worth more than $1 received on a later date). Usually, the terminal value contributes around three-quarters of the total implied valuation derived from a discounted cash flow (DCF) model – thus, calculating the value of a company’s free cash flows (FCFs) past the initial forecast stage with reasonable assumptions is an critical part of a DCF analysis that determines the model’s reliability. The Terminal Value represents the estimated value of a company beyond the final year of the explicit forecast period, i.e.
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