“Capitalization 2.0—Terminal Value Under Changing Capital Structure” is a new paper by Mike Adhikari (Business ValueXpress Software), a valuation and M&A advisor. The Capitalization 2.0 methodology is designed to improve on the simple Gordon growth model (GGM) and uses a recently developed advanced growth model (AGM) formula. GGM assumes that the capital structure of the business will remain constant and that the debt principal will never be repaid. Because of this, GGM can overvalue a business by 10% to 50%, according to Adhikari. AGM considers that, even when the business is growing at a constant rate, the debt principal may have to be paid down, and hence the capital structure will change. Unlike the GGM formula, the AGM formula is complex (although it has only three more input variables), so the paper includes a link to a spreadsheet of both the GGM and the AGM formulas that can be downloaded for free.
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