have to move up the income statement and first estimate
growth in revenues. Next, we use the firm’s expected
operating marginsinfutureyears to estimatetheoperating
incomeinthoseyears.Iftheexpectedmargininafutureyear
is positive, the expected operating income will also turn
positive,allowingustoapplytraditionalvaluationapproaches
invaluingthesefirms.Wealsoestimatehowmuchthefirm
has to reinvest to generate revenue growth, by linking
revenues to the capital invested in the firm.
Growth in Revenues
Manyhigh-growth firms,whilereporting losses,alsoshow
largeincreasesinrevenuesfromperiodtoperiod.Thefirst
stepinforecastingcashflowsisforecastingrevenuesinfuture
years,usuallybyforecastingagrowthrateinrevenueseach
period.In making theseestimates, thereare fivepoints to
keep in mind.
1.Therateofgrowthinrevenueswilldecreaseasthefirm’s
revenues increase. Thus, a tenfold increase in revenues is
entirelyfeasibleforafirmwithrevenuesof$2millionbut
unlikely for a firm with revenues of $2 billion.
2.Compoundedgrowthratesinrevenuesovertimecanseem
low,but appearancesaredeceptive. Acompounded growth
rateinrevenuesof 40 percentover 10 yearswillresultina
40-fold increase in revenues over the period.
3.Whilegrowthratesinrevenuesmaybethemechanismthat
youusetoforecastfuturerevenues,youdohavetokeeptrack
of the dollar revenues to ensure that they are reasonable,
giventhesizeoftheoverallmarketthatthefirmoperatesin.