Terminal Value Rules

This article explains how terminal value works in Model Reef.

You will learn:

• Why terminal value is needed in discounted cashflow models.

• How the multiple based method works.

• How the Gordon growth method works.

• How terminal value is combined with forecast cashflows.

Terminal value represents the value of cashflows beyond the explicit forecast horizon.

1. Why terminal value is required

Most models have a finite forecast period, for example five or ten years.

However, many businesses continue to operate beyond that horizon. Rather than forecasting every year individually, valuation models usually:

• Forecast detailed cashflows for a finite period.

• Use a terminal value to represent all cashflows after that period in a single number.

Model Reef allows you to configure this terminal value per model or scenario.

2. Multiple based terminal value

The multiple method applies a market or transaction based multiple to a chosen metric in the final forecast period.

1

Select the metric

Choose a metric from the final forecast year, such as EBITDA, EBIT or FCFE.

2

Choose the multiple

Select an appropriate market or transaction multiple (for example, 8× EBITDA).

3

Compute the terminal value

Terminal value is computed as:

Terminal value

Terminal value = Metric in final period × Multiple

This terminal value is treated as a cashflow in the final period and then discounted back to the present using the relevant discount rate.

3. Gordon growth terminal value

The Gordon growth method is normally applied to equity cashflows (FCFE).

1

Identify final period FCFE

Use FCFE in the final explicit forecast period.

2

Choose long run growth rate

Select a long run growth rate g that reflects long-term expectations.

3

Use the equity discount rate

Identify the equity discount rate r to use in the formula.

4

Compute the terminal value

Terminal value for a growing perpetuity is:

Gordon growth terminal value

Terminal value = FCFE in final period × (1 + g) ÷ (r − g)

This value represents the present value at the final period of a growing perpetuity of FCFE. It is then discounted back to today.

Gordon growth assumptions should be consistent with long run economic expectations.

4. Treatment of terminal value inside the engine

Within the valuation engine:

• Terminal value is added to the last forecast cashflow as an extra inflow.

• The combined amount is then discounted back along with all earlier FCFF or FCFE cashflows.

• Reports can show the share of total value that comes from the terminal value versus the explicit forecast period.

This helps you judge whether a valuation is dominated by long run assumptions or by near term performance.

Related articles

• Venue-Level Forecasting Pack

• Build a Variance Analysis Model

• Model Template Structure

• Scenario Toggle Rules