Listed companies are under constant pressure to spruik their potential even if they would be better served by taking a raincheck to consolidate or build cash flow.
In investment markets, the term “growth” implies long-term real gains. Valuation of growth equities is based on forecast high revenue or profit increases in the short to medium term and a terminal rate to capture the full potential.
If a company is expected to achieve high growth, it is typically accompanied by a very high valuation multiple relative to the index. The idea is that the company will grow into the multiple and reduce it to near the market average in a short timeframe, usually less than five years. The engine of valuation analysis – the discounted cash flow model – then takes over, with the specific, very long-term growth assumption having an unduly large impact on this metric.
