Question

Do small changes in the assumptions pertaining to the estimation of the terminal value have a significant impact on the calculation of the total value of the target firm? If so, why?

Answer 1

Answer:

Yes, small changes in the assumptions pertaining to the estimation of the terminal value have a significant impact on the calculation of the total value of the target firm.

Explanation:

Terminal value is dependent on the input used in the valuation and the two inputs which heavily influence the value of enterprise are future growth projection and discount rate.

Accurately projecting the future cash flow can be a doubting task and can result in a degree of uncertainty built into estimate.

Small changes in the assumptions pertaining to the estimation of the terminal value have a significant impact on the calculation of the total value of the target firm. This is because, it is these small changes in the stable growth rate can change the terminal value significantly and the effect gets larger as the growth rate approaches the rate used in the estimation of the total value of the target firm.