Growth, margin and tax paths

Today's growth rate and margin rarely last. High growth attracts competition and fades. Loss-making companies either reach profitability or die. The engine therefore moves each driver from an initial value toward a terminal or target value over the forecast horizon. This is a fade.

The fade is linear over $k$ years, the "years to target", and holds flat afterwards. With $n$ forecast years and $t = 0 \ldots n-1$:

Leaving years-to-target blank sets $k = n$, a fade over the whole horizon. A loss-making company with a 10-year horizon then spends most of the decade losing money, and the discounted losses can exceed the terminal value. If you believe the company reaches its target margin in year three, set years-to-target to 3 and the model stops charging it for seven years of losses that you do not expect.

Where the defaults come from

• Initial revenue growth is the point-in-time compound annual growth rate of historical revenue.
• Terminal growth is capped at the risk-free rate. No company can outgrow the economy forever, and the risk-free rate is a fair proxy for nominal long-run growth.
• Initial margin is the trailing-twelve-month operating margin. If it is negative, the target margin defaults to the Damodaran sector norm, because extrapolating a loss forever prices the company as worthless.
• Fade to sector norms pulls the target margin and the sales-to-capital ratio to the sector medians, the realistic default for young companies whose current economics are not yet representative.

Effective versus marginal tax

Companies often pay less than the statutory rate in the near term because of loss carry-forwards, foreign income and credits. The engine fades the effective rate, estimated from reported taxes over pre-tax income, toward the marginal statutory rate, because those advantages do not last forever and the terminal value should use the rate a mature company pays.