How do you calculate terminal value?

Terminal value usually accounts for somewhere between 60% and 80% of the total value in a DCF. That single fact explains why interviewers press on it harder than on any other part of the model: the projection period is where you show your work, and the terminal value is where the answer actually comes from.

There are two accepted methods, and a good answer covers both, explains when each is used, and — the part most candidates miss — describes how you check one against the other.

Explain what terminal value is first. You can't forecast cash flows forever, so you project explicitly for five or ten years, then capture everything beyond that horizon in a single figure at the end of the projection period.

Method one — Gordon Growth (perpetuity growth).

Terminal value = final year free cash flow × (1 + g) / (WACC − g)

Growth rate g is a long-run rate: usually 1–3%, and never above long-run GDP growth or roughly the rate of inflation. A business growing faster than the economy forever eventually becomes the economy.

Method two — exit multiple.

Terminal value = terminal year EBITDA × an exit multiple

The multiple comes from where comparable companies trade today, or from precedent transactions. It's the more common approach in banking, partly because it's grounded in observable market data and partly because it's easier to defend in a pitch.

Then say the thing that gets skipped: discount it back. Terminal value sits at the end of year N, so it's discounted at the same WACC over the same period as the year-N cash flow. Sum the discounted projection-period cash flows and the discounted terminal value and you have enterprise value. If you're using mid-year convention on the projection cash flows, be ready to say how you're treating the terminal value — an exit-multiple terminal value represents a sale at the end of the final year, so it's typically discounted at the full-year factor.

Cross-check the two methods. This is what makes an answer sound like it came from someone who has built the model:

• Back out the growth rate implied by your exit multiple. If it implies 6% perpetual growth, the multiple is too high.
• Back out the multiple implied by your growth rate. If it implies 25× EBITDA for a mature industrial, the growth assumption is too aggressive.

Note the terminal year has to be normalised. Steady state means capital expenditure roughly equal to depreciation, stable margins, and working capital growing in line with revenue. You can't perpetuate a year with a one-off capex programme or a temporarily depressed margin.

Whether you know how much of the answer rides on this. Volunteering that terminal value is typically the majority of enterprise value tells the interviewer you've seen a real output page. It also naturally leads to the sensitivity discussion they were going to raise anyway.

Whether you understand the mathematical constraint. The perpetuity formula requires g to be less than WACC. As g approaches WACC the denominator approaches zero and terminal value explodes. Candidates who don't see why this matters tend to pick growth rates that produce absurd valuations.

Whether you cross-check. Very few candidates offer the implied-growth and implied-multiple checks unprompted, and it's one of the most reliable ways to separate yourself in a technical round.

Whether the terminal year is a steady state. Expect a probe: "your final projection year has capex at twice depreciation — is that a problem for your terminal value?" It is.