Terminal Growth Rate – Business Valuation Calculator QA
What is Terminal Growth Rate (%)?
The Terminal Growth Rate represents the constant rate at which a company’s cash flows are expected to grow indefinitely after the forecasted period. It is an essential component in valuation methods like the Discounted Cash Flow (DCF) method, helping to estimate the continuing value of a business beyond explicit forecast periods.
Why is Terminal Growth Rate Important in Business Valuation?
Terminal growth rate significantly influences a company’s valuation by determining the long-term cash flow projections. Accurate selection of a terminal growth rate allows valuation experts and investors to:
- Realistically project long-term business performance.
- Account for industry-specific trends and economic conditions.
- Assess the perpetual sustainability and stability of the business.
How is Terminal Growth Rate Determined?
The terminal growth rate typically aligns with:
- Expected long-term inflation rates.
- Long-term economic growth projections.
- Industry-specific growth expectations.
The selected terminal growth rate usually ranges between 1-4%, reflecting conservative, sustainable growth.
Example of Terminal Growth Rate Application:
Suppose a company’s projected free cash flow in the final forecast year is $500,000, and the chosen terminal growth rate is 3%. Using the Gordon Growth Model to calculate terminal value:
Terminal Value=Final Year Cash Flow×(1+Terminal Growth Rate)Discount Rate−Terminal Growth Rate\text{Terminal Value} = \frac{\text{Final Year Cash Flow} \times (1 + \text{Terminal Growth Rate})}{\text{Discount Rate} – \text{Terminal Growth Rate}}
If the discount rate is 10%, the calculation is:
Terminal Value=500,000×(1+0.03)0.10−0.03=515,0000.07=7,357,143\text{Terminal Value} = \frac{500,000 \times (1 + 0.03)}{0.10 – 0.03} = \frac{515,000}{0.07} = 7,357,143
Thus, the terminal value is approximately $7.36 million.
How Does Terminal Growth Rate Affect Valuation?
- Higher Terminal Growth Rate: Implies greater future cash flows and increases valuation.
- Lower Terminal Growth Rate: Reflects conservative growth prospects, reducing the estimated valuation.
Using the Valuation Calculator:
Our valuation calculator simplifies incorporating the terminal growth rate into your company’s valuation. Input your specific terminal growth rate along with other financial metrics to quickly derive an accurate and realistic valuation.
Professional Assistance:
Selecting the appropriate terminal growth rate can significantly impact your business valuation accuracy. For guidance tailored specifically to your business needs, contact our expert valuation team today.