Terminal value, also called reversion value, is the estimated sale price of a property at the end of the hold period in a discounted cash flow model. It equals the NOI in the year after the hold divided by the exit cap rate. It is the largest cash flow in most real estate DCF models and often dominates the valuation.
How Is Terminal Value Calculated?
Terminal value is calculated with direct capitalization: divide the property's NOI in the year after the hold by the exit cap rate. The formula is Terminal Value = Year-After-Hold NOI / Exit Cap Rate. For a 10-year hold, analysts cap the year-11 NOI, per multiple DCF references including The Fractional Analyst and REI Prime, because a buyer at exit prices the forward income.
The result is a future, undiscounted figure, so it must be discounted back to present value before it is added to the interim cash flows. An alternative is the perpetuity growth method, Terminal Value = Final-Year Cash Flow x (1 + Growth Rate) / (Discount Rate minus Growth Rate), but in real estate the exit cap approach dominates because it ties directly to how properties trade.
Method | Formula | When used |
Direct capitalization | Year-after-hold NOI / Exit cap rate | Standard in real estate DCF |
Perpetuity growth | Cash flow x (1 + g) / (r minus g) | Rare in real estate, common in corporate DCF |
Gross sale less costs | Terminal value minus selling costs | Nets the reversion for return math |
Selling costs, typically brokerage and transfer fees, are subtracted from the gross terminal value to get net sale proceeds, which is the figure that flows into the equity return.
Why Terminal Value Matters
Terminal value matters because it usually accounts for the majority of a property's modeled value. In commercial real estate, terminal value commonly represents 60% to 80% of the total value in a discounted cash flow model, per The Fractional Analyst and REI Prime, which means the exit assumption often outweighs a decade of projected rent growth in setting the answer.
Because it is one large cash flow at the end of the horizon, terminal value is where optimistic assumptions do the most damage. An exit cap rate set 50 basis points too low, or an exit-year NOI projected too high, inflates the terminal value and every return that depends on it. The most consequential number in a hold-period model is not any single year of income, it is the reversion at the end.
Example
An investor models a 5-year hold with year-6 NOI of $2,100,000 and a 6.00% exit cap rate. Terminal value is NOI divided by the exit cap. The table shows the gross terminal value, selling costs at 2%, and the net proceeds, then the present value discounted at 8%.
Line | Calculation | Amount |
Gross terminal value | $2,100,000 / 0.0600 | $35,000,000 |
Less selling costs (2%) | $35,000,000 x 0.02 | ($700,000) |
Net sale proceeds | $35,000,000 minus $700,000 | $34,300,000 |
Present value (5 yrs at 8%) | $34,300,000 / 1.08^5 | $23,344,000 |
The property is projected to sell for $35,000,000 gross, netting $34,300,000 after a 2% cost of sale. Discounted five years at 8%, that reversion is worth about $23,344,000 today. That single present value typically exceeds the combined present value of the five years of interim cash flow, which is why terminal value drives the deal.
Variations and Edge Cases
Terminal value depends on the exit cap rate, the NOI year capped, and whether costs are netted, and each choice moves the result. The label alone does not reveal whether the figure is gross or net, or which NOI year was used. The table separates the common variants.
Variant | Meaning |
Gross terminal value | Capped NOI before selling costs |
Net terminal value | Terminal value minus brokerage and transfer costs |
Discounted terminal value | Reversion discounted back to present value |
Perpetuity growth terminal value | Terminal value from a growth formula, not a capped NOI |
The frequent mistake is adding an undiscounted terminal value to already-discounted interim cash flows. Terminal value is a future amount, so it must be discounted to present value at the same rate before it is summed. Mixing discounted and undiscounted figures overstates the valuation, often badly, because terminal value is so large.
Terminal Value vs Present Value
Terminal value is often confused with present value, but they sit at opposite ends of the discounting process. Terminal value is a future amount, the estimated resale price at the end of the hold. Present value is that amount, and all interim cash flows, discounted back to today's dollars. Terminal value is an input to the present value calculation, not a substitute for it.
The two are linked by the discount rate. A terminal value of $34,300,000 five years out is worth about $23,344,000 today at an 8% discount rate. Reporting terminal value as if it were present value overstates what the deal is worth now, because it ignores the time value of money over the entire hold.
Frequently Asked Questions
What is terminal value in real estate?Terminal value is the estimated sale price of a property at the end of the hold period in a discounted cash flow model. It is calculated by dividing the NOI in the year after the hold by the exit cap rate, and it commonly represents 60% to 80% of the total value in a real estate DCF.
How do you calculate terminal value?Terminal value is calculated by dividing the NOI in the year after the hold by the exit cap rate, a method called direct capitalization. For a 10-year hold, that means capping the year-11 NOI. The result is then discounted back to present value before it is added to the interim cash flows.
Is terminal value the same as reversion value?Yes. Terminal value and reversion value are two names for the same figure: the estimated resale price of a property at the end of the hold in a DCF. Some analysts also call it the exit value or residual value.
Related Terms
Exit Cap Rate
Net Operating Income
Internal Rate of Return
Pro Forma
Going-In Cap Rate