Discounted cash flow / ORIGINAL SCENARIO

Terminal value timing

Year 5 UFCF is 50. Perpetual growth 2%, WACC 10%. Find terminal value at end of year 5 and its present value.

Amounts $m. Gordon growth, WACC>g, no stub periods. Only discount terminal value, not explicit forecast cash flows.

Try it before the answer →

Worked answer

terminal: 50 × (1 + 0.02) ÷ (0.1 − 0.02) = 637.5
pv: 50 × (1 + 0.02) ÷ (0.1 − 0.02) ÷ (1 + 0.1) ^ 5 = 395.837

Grow year5 cash flow once to obtain year6.

The terminal value sits at end of year5; discount five years.

Technical follow-ups

What breaks when growth approaches or exceeds WACC?

How would you challenge a valuation dominated by terminal value before recommending a bid?

Follow-up answer guide

The standard perpetual-growth formula requires WACC greater than growth. Near equality implies an unstable enormous terminal value; at or above WACC the conventional perpetuity model is not economically valid.

A fresh retry

Year 5 UFCF is 65. Perpetual growth is 2.5% and WACC is 11%. Calculate terminal value at the end of year 5, and its present value today.

Amounts $m. Gordon growth, WACC>g, no stub periods. Only discount terminal value, not explicit forecast cash flows.

Inspect replacement inputs

fcf: 65
g: 0.025
wacc: 0.11
years: 5

Check the retry bridge

terminal: 65 × (1 + 0.025) ÷ (0.11 − 0.025) = 783.824
pv: 65 × (1 + 0.025) ÷ (0.11 − 0.025) ÷ (1 + 0.11) ^ 5 = 465.161

Original fictional example. Not a report of a specific firm’s interview. Explanations need qualified human review.