+7 925 966 4690, 9am6pm (GMT+3), Monday – Friday
ÈÄ «Ôèíàíñû è êðåäèò»

JOURNALS

  

FOR AUTHORS

  

SUBSCRIBE

    
Financial Analytics: Science and Experience
 

To the question of calculating the terminal component of Discounted Cash Flow model

Vol. 9, Iss. 6, FEBRUARY 2016

PDF  Article PDF Version

Received: 12 January 2016

Accepted: 25 January 2016

Available online: 19 February 2016

Subject Heading: ASSESSMENT AND APPRAISAL ACTIVITIES

JEL Classification: G31, G32

Pages: 27-41

Ibragimov R.G. Russian Presidential Academy of National Economy and Public Administration, Moscow, Russian Federation
ibrauf@rambler.ru

Importance The article discusses methodological aspects of calculating the terminal component for business appraisal and evaluation of the investment project efficiency using the Discounted Cash Flow method.
     Objectives The research aims at elaborating and substantiating methodological recommendations to set up a financial model for the terminal component calculation.
     Methods I used a formalized mathematical framework and computer modeling to examine the nexus and quantitative relationships between structural components of the terminal assessment in line with their economic substance.
     Results Whereas financials of the last period of the forecasting horizon and the post-forecast period assumptions are inconsistent, it may result in significant errors. To avoid them, it is advisable to set a terminal component on the basis of the cash flow of the first post-forecast year estimated explicitly, operating profit of the last year of the forecasting horizon, growth rate and return on investment in the post-forecast period.
     Conclusions and Relevance Uncontroversial calculation of the terminal component is one of the key steps for evaluation through the Discounted Cash Flow method. Results may be regarded as sound and reliable if forecasted data and variables of the continuously increasing rent model are correlated. The results are of practical significance for setting up financial models of business appraisal and analysis of the investment project efficiency.

Keywords: evaluation, terminal assessment, cyclicality, iteration solution, consistency, model

References:

  1. Koller T., Goedhart M., Wessels D. Valuation: Measuring and Managing the Value of Companies. Hoboken, John Wiley & Sons, 2010, 768 p.
  2. Palepu K.G., Healy P.M. Business Analysis Valuation: Using Financial Statements. Mason, South-Western College Pub., 2012, 336 p.
  3. Titman S.J., Martin J.D. Valuation: The Art and Science of Corporate Investment Decisions. Prentice Hall, 2010, 592 p.
  4. Ibragimov R.G. Struktura kapitala i tsennost' kompanii: analiz za ramkami dopushchenii teorem Modil'yani–Millera [Capital structure and value of the firm: Beyond the assumptions of the Modigliani–Miller Theorems]. Rossiiskii zhurnal menedzhmenta = Russian Management Journal, 2009, vol. 7, no. 4, pp. 33–56.
  5. Damodaran A. Investitsionnaya otsenka: Instrumenty i metody otsenki lyubykh aktivov [Investment Valuation: Tools and Techniques for Determining the Value of Any Asset]. Moscow, Al'pina Biznes Buks Publ., 2004, 1340 p.
  6. Gordon M.J., Shapiro E. Capital Equipment Analysis: The Required Rate of Profit. Management Science, 1956, vol. 3, no. 1, pp. 102–110.
  7. Gordon M.J. The Investment, Financing and Valuation of the Corporation. Homewood, Richard D. Irwin, 1962, 256 p.
  8. Copeland T., Koller T., Murrin J. Stoimost' kompanii. Otsenka i upravlenie [Valuation: The Value of Companies: Measuring & Managing]. Moscow, Olimp-Biznes Publ., 2005, 562 p.
  9. Higgins R.C. How Much Growth Can a Firm Afford? Financial Management, 1977, vol. 6, no. 3, pp. 7–16.
  10. Higgins R.C. Sustainable Growth Under Inflation. Financial Management, 1981, vol. 10, no. 4, pp. 36–40.
  11. Higgins R.S. Finansovyi analiz: instrumenty dlya prinyatiya biznes-reshenii [Analysis for Financial Management]. Moscow, Vil'yams Publ., 2007, 464 p.
  12. Miller M.H., Modigliani F. Dividend Policy, Growth and the Valuation of Shares. The Journal of Business, 1961, vol. 34, no. 4, pp. 411–433.
  13. Sharpe W. Capital Asset Prices: A Theory of Market Equilibrium under Conditions of Risk. The Journal of Finance, 1964, vol. 19, no. 3, pp. 425–442.
  14. Lintner J. The Valuation of Risk Assets and the Selection of Risky Investments in Stock Portfolios and Capital Budgets. The Review of Economics and Statistics, 1965, vol. 47, no. 1, pp. 13–37.
  15. Levy H. The CAPM is Alive and Well: A Review and Synthesis. European Financial Management, 2010, vol. 16, no. 1, pp. 43–71.
  16. Limitovskii M.A., Lobanova E.N., Minasyan V.B., Palamarchuk V.P. Korporativnyi finansovyi menedzhment [Corporate financial management]. Moscow, Yurait Publ., 2014, 990 p.
  17. Miles J.A., Ezzell J.R. Reformulating Tax Shield Valuation: A Note. The Journal of Finance, 1985, vol. 40, no. 5, pp. 1485–1492.
  18. Abrams J.B. An Iterative Valuation Approach. In: Quantitative Business Valuation: A Mathematical Approach for Today's Professionals. John Wiley & Sons, 2015, pp. 235–247.
  19. Tham J., Vélez-Pareja I. Principles of Cash Flow Valuation. Burlington, Elsevier Academic Press, 2004, 350 p.
  20. Minasyan V.B., Limitovskii M.A. Razrabotka i primenenie iteratsionnykh algoritmov opredeleniya struktury i otsenki stoimosti kapitala [Developing and applying iteration algorithms to determine the structure of capital value and evaluate it]. Upravlencheskii uchet i finansy = Management Accounting and Finance, 2010, no. 3, pp. 162–183.
  21. Minasyan V.B. Metodicheskie osobennosti raschetov struktury kapitala i stoimosti kapitala v tekhnologiyakh finansovogo menedzhmenta [Methodological specifics of assessing the capital structure and cost of capital in financial management technologies]. Menedzhment i biznes-administrirovanie = Management and Business Administration, 2014, no. 4, pp. 136–151.
  22. Ibragimov R.G. Finansovaya politika i effektivnost' investitsionnogo proekta. Vybor adekvatnoi modeli otsenki [Financial policies and the investment project efficiency. A choice of an adequate evaluation model]. Audit i finansovyi analiz = Audit and Financial Analysis, 2014, no. 3, pp. 133–143.
  23. Arzac E.R. Valuation: Mergers, Buyouts and Restructuring. Hoboken, John Wiley & Sons, 2008, 480 p.
  24. Arzac E.R., Glosten L.R. A Reconsideration of Tax Shield Valuation. European Financial Management, 2005, vol. 11, no. 4, pp. 453–461.
  25. Fernandez P. Valuation Methods and Shareholder Value Creation. San Diego, Academic Press, 2002, 631 p.
  26. Artemenkov A.I., Mikhailets V.B. Eshche ob odnom effekte giperbolizma, nablyudaemom v modeli Gordona [On another hyperbolism effect seen in the Gordon model]. Voprosy Ocenki, 2005, no. 4, pp. 21–24.
  27. Harris R.S., Pringle J.J. Risk-Adjusted Discount Rates Extensions From the Average-Risk Case. The Journal of Financial Research, 1985, vol. 8, no. 3, pp. 237–244.
  28. Fernandez P. The Value of Tax Shields Is NOT Equal to the Present Value of Tax Shields. The Journal of Financial Economics, 2004, vol. 73, no. 1, pp. 145–165.
  29. Cooper I.A., Nyborg K.G. The Value of Tax Shields is Equal to the Present Value of Tax Shields. The Journal of Financial Economics, 2006, vol. 81, iss. 1, pp. 215–225.
  30. Lally M. The Gordon-Shapiro Dividend Growth Formula and Inflation. Accounting and Finance, 1988, vol. 28, iss. 2, pp. 46–51.
  31. Bradley M., Jarrell G.A. Expected Inflation and the Constant-Growth Valuation Model. Journal of Applied Corporate Finance, 2008, vol. 20, no. 2, pp. 66–78.
  32. Friedl G., Schwetzler B. Terminal Value, Accounting Numbers, and Inflation. Journal of Applied Corporate Finance, 2011, vol. 23, no. 2, pp. 104–112.
  33. Kiechle D., Lampenius N. The Terminal Value and Inflation Controversy. Journal of Applied Corporate Finance, 2012, vol. 24, no. 3, pp. 101–107.

View all articles of issue

 

ISSN 2311-8768 (Online)
ISSN 2073-4484 (Print)

Journal current issue

Vol. 17, Iss. 1
March 2024

Archive