Glossarytaught in M3.05
Steady state
Also called mature phase, normalised state.
The condition a terminal value assumes: constant growth, constant margins, and reinvestment consistent with that growth at a return that no longer exceeds the cost of capital by much.
Internal consistency is the part most models fail. A terminal value assuming 5% perpetual growth at a 12% return on capital requires the business to reinvest 41.7% of its operating profit forever. If the terminal cash flow doesn't reflect that reinvestment, the model has assumed growth without paying for it.
Free growth is the commonest error in a beginner's discounted cash flow, and it can inflate a valuation by half.
Check that terminal reinvestment equals growth divided by return. Every time.
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