1. What is Terminal Growth Rate?

The terminal growth rate is the constant rate at which a company's cash flows are expected to grow forever after the forecast period in a discounted cash flow (DCF) valuation. It represents the long-term sustainable growth rate of the economy.

2. How Does the Calculator Work?

The calculator uses the standard terminal growth rate formula:

Where:

• Long-term Inflation - Expected average inflation rate over the long term
• GDP Growth - Expected long-term real GDP growth rate of the economy

Explanation: The terminal growth rate should generally not exceed the long-term growth rate of the economy, as no company can grow faster than the economy forever.

3. Importance of Terminal Growth Rate

Details: The terminal growth rate is a critical input in DCF valuation as it significantly impacts the terminal value, which often constitutes a large portion of the total valuation.

4. Using the Calculator

Tips:

• For developed economies, typical inflation assumption is 2-3%
• Long-term real GDP growth is typically 1.5-3% for developed markets
• Resulting terminal growth rate is usually in the 2-6% range
• Values above 5% should be used with caution

5. Frequently Asked Questions (FAQ)

Q1: Why can't terminal growth exceed GDP growth plus inflation?
A: In the long run, no company can grow faster than the overall economy forever, as it would eventually become larger than the economy itself.

Q2: What are typical terminal growth rates used in valuation?
A: For US companies, 2-3% is common. For faster-growing economies, 3-5% might be appropriate. Very rarely above 5%.

Q3: How does terminal growth affect valuation?
A: Higher terminal growth rates lead to higher valuations. A 1% change in terminal growth can significantly impact the valuation.

Q4: Should terminal growth equal the discount rate?
A: No, terminal growth must always be lower than the discount rate (WACC), otherwise the model breaks mathematically.

Q5: How to estimate long-term inflation and GDP growth?
A: Use central bank inflation targets and historical GDP growth trends adjusted for demographic changes.