What is typically used as a terminal growth rate in the perpetuity method?

In the perpetuity method, commonly referred to as the Gordon Growth Model, the terminal growth rate is essential for calculating the present value of future cash flows that are expected to continue indefinitely. The rationale behind using the rate of inflation or GDP growth as the terminal growth rate is grounded in economic principles. This rate reflects the long-term sustainable growth of the economy in which the company operates.

Using the rate of inflation or GDP growth aligns with the assumption that, in the long run, a company's growth will not exceed the economy's overall growth rate. This approach helps ensure that projections remain realistic and grounded in broader economic trends. It provides a more conservative and stable estimate of growth as opposed to significantly higher growth rates, which may not be sustainable over time.

The other options suggest varying growth rates based on historical performance or industry averages, which can be less reliable for long-term projections due to fluctuations in market conditions and individual company performance. By choosing to rely on inflation or GDP growth, the focus remains on a more widely accepted benchmark for long-term sustainability.