Definition
Terminal Value estimates the value of all cash flows beyond a DCF's explicit forecast period (typically 5-10 years), treated as a perpetuity growing forever at a constant terminal growth rate. It routinely makes up the majority — often 60-80% — of a DCF's total estimated value, which is why the terminal growth rate assumption matters so much.
Formula
Terminal Value = FCFₙ₊₁ ÷ (WACC − g)
FCFₙ₊₁ = Free cash flow in the first year after the forecast period = FCFₙ × (1 + g)
WACC = Discount rate used throughout the DCF
g = Terminal growth rate
Present value of terminal value
PV(Terminal Value) = Terminal Value ÷ (1 + WACC)ⁿ
Terminal Value is calculated as of the end of the forecast period, so it must still be discounted back n years to today, the same as every other projected cash flow in the model.
Worked example
Worked example
Year-5 free cash flow$100M
Terminal growth rate (g)2.5%
WACC8.0%
Terminal Value (at year 5) = $102.5M ÷ 0.055$1,863.6M
PV of Terminal Value = $1,863.6M ÷ (1.08)⁵$1,268.6M
If the sum of the 5 explicit forecast years' discounted cash flows is $350M, the total enterprise value is $350M + $1,268.6M = $1,618.6M — terminal value alone is 78% of the total. This is normal for a DCF, but it means the model's output is much more sensitive to the terminal growth rate and WACC than to any single year's forecast.