Terminal Value for IRR Calculation - Restaurant Franchise

I am calculating IRR from a 10 years projected cash flow + a terminal value.
The terminal value I understand is usually calculated as FCFF(1+g)/(r-g).
Incase of using terminal value for IRR calcuation should the r= cost of capital or r=IRR (in this case it will be iterative as its being used to calculate IRR itself). Please let me know the usual practice.


Comments (15)

May 26, 2016

(discount rate - growth rate)

Why would you ever discount something by the IRR that you are trying to calculate?

May 11, 2017

The terminal value is a shortcut to projecting cash flows to perpetuity.

IRR is the discount rate that makes the NPV = 0. Why would you abirtrarily say you will stop discounting CF @ IRR the moment you reach the 10th year?

I believe you should do the iterative process. Doing a goal seek to find the right discount rate that would make your NPV = 0 would let you find the IRR.

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May 11, 2017


May 11, 2017

That's not how I would calculate a restaurant's value in time 10 (or even in time 1). I'd multiply earnings by an industry-standard ratio, e.g. 8 times earnings. I don't think "the market" values a for-sale restaurant using a DCF calculation. Exceptions might be McDonald's or Taco Bell. Regardless, if you're using a DCF calculation I'd use a multiple of earnings calculation for terminal value.

May 11, 2017

I guess I'm not following the question. You have (a) forecasted cash flows, (b) a purchase price (presumably) and you want to estimate an IRR. Why can't you goal seek the IRR? You're solving for the IRR given (a) and (b). It's not an issue at all.

May 11, 2017

Well he's looking for an exit price as part of the IRR calc.

I agree with Dances though, this is a pretty esoteric approach that I've never seen actually used. Just use a GMI or cap the NOI

May 11, 2017

So he has a target IRR and wants to see what the value is? That's not hard to do either. Yeah, you could use the WACC to get a price and estimate the IRR off that, but you'd have to explain what's driving the difference in the WACC/IRR.

May 11, 2017

On a semi unrelated note... How should one calculate TV for a non-profit affordable housing developer? (Government Housing Authority) Cost of Capital = 0%.

I applied a projected cap rate and ran with it. Is this appropriate?

May 12, 2017

How much would you pay for 0 profits?

May 12, 2017

I understand that we would target a Leveraged IRR of 0%. I am wanting to to know how you would calculate the Terminal Value of the property with a WACC of 0%. The Gordon Growth Model doesn't work in this case.

Should I just apply a multiple or cap the property at an appropriate rate?

May 12, 2017

I assume you're talking about the terminal value of a specific property. A property's "value" is not determined by the owner's cost of capital; it is determined by what the "market" would pay for the property. So if the government decided to sell the property, how would the market value the property? By capping the before debt service cash flow by a cap rate the "market" would be willing to pay for an income-restricted property.

May 12, 2017

I would try to find recent sales of the franchise in similar markets and use the sales comp approach.

If you can get that the physical uniformity of franchises should give you an accurate representation of the value.


May 12, 2017

Well the variations in franchisee credit could be significant

Best Response
May 12, 2017
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