2. Continuing Value with Normalized Projections

Now we can put together the various ingredients of our estimation of continuing value. As of the end of the explicit forecast period, we can estimate the value of the following growing perpetuity using normalized values:

  

Continuing valueT = \( \frac{\text{Normalized FCF}_T \times (1+g)}{WACC-g} \).

  

In the case of our firm, we have estimated a normalized FCFT of 3'110 and a normalized growth rate of 2.1%. Given a WACC of 7.38%, these estimates imply a continuing value of 60'138 at the end of the explicit forecast period:

 

Continuing valueT = \( \frac{\text{Normalized FCF}_T \times (1+g)}{WACC-g} = \frac{3'110 \times 1.021}{0.0738 - 0.021} = 60'138 \).

   

Therefore, the present value of the continuing value is 52'156:

 

PV Continuing valueT = \( \frac{\text{Continuing value}_T}{(1+WACC)^T} = \frac{60'138}{1.0738^2} = 52'156 \).

 

Combined with the value form the explicit forecast period of 5'974, the estimated firm value is 58'130:

 

Firm value = PV forecast period + PV continuing value = 5'974 + 52'156 = 58'130.

 

Note that this estimate is approximately 25% lower than our „naïve” approach. The reason for this significant valuation difference is two-fold:

  • We are more conservative with respect to the normalized EBIT margin (22% vs. 24.7%).
  • More importantly, we are consistent in our assumptions concerning long-term growth and investment. Given the firm's investment policy and opportunities, the expected growth rate from the naïve approach (3%) cannot be justified. Instead, we work with a growth rate of 2.1%.