During which step of DCF analysis is the Terminal Value determined?

The determination of Terminal Value is a crucial step in Discounted Cash Flow (DCF) analysis, and it is primarily calculated during the projection of free cash flows. This is because the Terminal Value accounts for the value of a company beyond the explicit forecast period, extending indefinitely into the future.

When analysts project free cash flows, they typically provide forecasts for a certain number of years (usually 5 to 10 years). After this period, the Terminal Value estimates the company's value once the cash flows are expected to stabilize and grow at a constant rate. This calculation is done using approaches such as the Gordon Growth Model or the Exit Multiple Method.

In the context of DCF, projecting free cash flows involves assessing the growth rates, profitability, and ultimately formulating an expectation for future cash flows. The projection directly feeds into the calculation of the Terminal Value, thus making it a part of the process during the forecasting stage.

Once Terminal Value is determined, it will then contribute to the overall valuation, which will be discounted back to present value in the next steps. However, the actual calculation and establishment of the Terminal Value itself occurs during the projection of free cash flows, affirming why this step is integral to the DCF process.