Terminal cash flow is an accounting term used when analyzing capital budgets for a business or company. While cash flow describes the income and expenses of a business, terminal cash flow describes the income and expenses of a business at the end of or termination of a specific project or period of time. The term can also describe the value of a machine after it is scrapped or salvaged, after deducting any tax or net working value the business is able to recover from the device during its ownership or possession.
For example, a company wants to increase its present value figures by purchasing a new machine because the new equipment enables the company to increase its production. The cost of buying the new machine is $200,000 US Dollars (USD), the life of the machine is five years, and its scrap value after that is $25,000 USD. After the company buys the machine, the working capital requirements to maintain and operate the machine will cost the business $10,000 USD.
At the end of the lifetime of the machine, terminal cash flow value of the machine can be determined. To calculate this, the salvage value of the machine is added to the amount the business recovers in working capital by having and using the machine. In this case, the terminal cash value equals $25,000 USD plus the $10,000 USD for a total of $35,000 USD.
Another way to look at this figure is to consider it as the value of an item or assets after discounting for certain considerations. For example, the cash flow is a projected or estimated number that is determined for a certain number of periods or years. When the set period ends, then the annual projections can be calculated more accurately. Instead of calculating cash flow for each of the individual years over the projected period, terminal cash flow is the calculation of the total value for the entire period.
When an assumption is made that the rate of growth is constant, then a slightly different equation is used. In this case, the equation is that the value equals the expected cash flow of the next period, divided by the discount rate, minus the expected growth rate. The consistency of the cash flow or growth rate eventually becomes less volatile for the company or business for which the accountants are calculating terminal cash flow for a specific project or piece of equipment or machinery.