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Conditions for consistent valuation of a growing perpetuity

Author

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  • Ignacio Velez-Pareja

Abstract

Using the model proposed by Velez-Pareja (2006) and assuming straight line depreciation we examine the conditions to assure a constant growth rate in a growingperpetuity. Our findings are that in practical terms for a growing perpetuity there are two options: either depreciation life is one year or there is no depreciation at all. The practical implication of this is that we have to find approximations when calculating terminal values in valuing cash flows. We examine some models and comparethem with the theoretical model proposed in this note. The results based on an example are that the model with a nominal plowback ratio is the one that approximates more to the theoretical" value when depreciation life is one year. The nearest value for typical depreciation lives is more than 95% higher than the theoretical value. In the last part of this note we pose questions rather than solutions. We invite the reader to answer those questions and even to pose additional ones."

Suggested Citation

  • Ignacio Velez-Pareja, 2007. "Conditions for consistent valuation of a growing perpetuity," Proyecciones Financieras y Valoración 4324, Master Consultores.
    • Handle: RePEc:col:000463:004324
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    More about this item

    Keywords

    Perpetuities; terminal value;

    JEL classification:

    • D61 - Microeconomics - - Welfare Economics - - - Allocative Efficiency; Cost-Benefit Analysis
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • H43 - Public Economics - - Publicly Provided Goods - - - Project Evaluation; Social Discount Rate

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