Series 79 practice questionmediumDCF - Terminal Growth Rate
An analyst is using a 3% terminal growth rate in a DCF analysis. Which of the following most accurately describes the impact of increasing the terminal growth rate to 4%, assuming all else is equal?
- AThe present value of terminal value decreases
- BThe DCF valuation increases✓ Correct answer
- CThe cost of capital increases automatically
- DThe value of near-term cash flows increases
Explanation
Why B — The DCF valuation increases
A higher terminal growth rate increases the terminal value, and thus the resulting DCF valuation. The discount rate does not automatically change, and near-term cash flows are not affected.
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