Question

When finding the present value of a business, you usually include a horizon value. Which of the following is true when determining the horizon value? Multiple Choice The cash flows will increase in the future at a constant rate. The cash flows used to determine the horizon value will diminish on an annual basis. The growth rate of the future cash flows will exceed the company's WACC. All future cash flows will be constant. The company will be sold at the horizon for the estimated horizon value

Answer 1

The correct Option is :- The cash flows will increase in the future at a constant rate.

Explanations.   

When we made valuation of a business, we use present value of cash flows to value the business in which one of the method used is discounted cash flow model.

We may have a forecasted period in which cash flows are forecasted for a particular period like 4 to 6 years beyond which we have to determine terminal value or horizon value.

While calculating Horizon value we assume that cash flow will grow perpetually at a constant rate. So we discount these cash flows using perpetual growth formula.

Hence while determining horizon value the cash flow will increase in future at a constant rate.