Terminal value represents all of a company's expected cash flows beyond the explicit forecast period of a DCF model, condensed into a single figure. It is most often calculated with the Gordon growth method: the final-year cash flow grown by a modest perpetual rate, divided by the discount rate minus that growth rate.
Worked example
Final-year free cash flow $110, perpetual growth 2.5%, discount rate 8%. Terminal value = 110 × (1 + 0.025) ÷ (0.08 − 0.025) = 112.75 ÷ 0.055 ≈ $2,050, which is then discounted back to today.
Why it matters
Terminal value frequently accounts for 60%–80% of a DCF's total value, so the assumptions behind it matter enormously. The perpetual growth rate must stay below the discount rate and should not exceed long-run economic growth, or the model breaks.
Frequently asked questions
Usually no higher than long-run GDP growth — often around 2%–3% — since no company can grow faster than the economy forever.