Module II· DCF — Terminal ValueAdvanced
Question
What is a two-stage or three-stage DCF, and when do you use it?
Answer
Two-stage
an explicit growth phase (Years 1–5: 8% growth) + steady state (Year 6+: 2% growth). The transition is abrupt. Three-stage: a growth phase + a fade phase (Years 6–10: linear reduction from 8% to 2%) + steady state (Year 11+: 2%). More realistic for growth companies, because growth does not collapse overnight.
Application
tech / pharma / biotech with a clear maturity path. Example: SAP's cloud transition (2018–2025) — without a fade model the valuation becomes inaccurate. Standard IB: two-stage; equity research on growth companies often three-stage.
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Pitch tip
three-stage signals intellectual depth, but is rarely needed in a classic IB pitch.