In the Gordon Growth Method for terminal value, what factor is used for computation?

In the Gordon Growth Method for terminal value, the calculation is based on the free cash flow at the end of the projection period, which is the final year free cash flow. This approach uses a perpetual growth model where the terminal value is derived from the assumption that the business will continue to generate cash flows that grow at a stable rate indefinitely.

The formula typically looks like this: Terminal Value = Final Year Free Cash Flow × (1 + Growth Rate) / (Discount Rate - Growth Rate). Here, the final year free cash flow is essential because it serves as the basis from which future cash flows are projected indefinitely, adjusted for expected growth.

Using final year free cash flow reflects the company's ability to generate cash after all capital expenditures are accounted for, making it the most accurate representation of future cash-generating potential in the context of terminal value calculations. Other factors such as EBITDA, market capitalization, or net income to equity holders do not directly serve this purpose in the Gordon Growth Method for estimating terminal value.