RESIDUAL VALUE IMPORT TO A BUSINESS SALE

RESIDUAL VALUE  IMPORT TO A BUSINESS SALE

Residual value, also known as salvage or terminal value, is a term that applies in various business applications. It measures the worth of an asset or business at the presumed end of its useful life.

For our business valuations, the calculation of a terminal value is critical. As part of the discounted cash flow technique (DCF), the terminal value represents the fact that the business will continue at the end of the cash flow period (five or ten years) in perpetuity. This terminal value is discounted back to today at the business cost of capital.

The Perpetuity Growth Method included in the DCF is sensitive to the long-term growth rate. This rate should be conservative and not exceed the overall economy growth.

Another approach to terminal value is termed the Exit Multiple Method. The formula is usually EBITDA times an industry sales multiple. This sales multiple is derived from near term sales of comparable companies.