In the high-stakes game of valuation, where spreadsheets meet storytelling, one golden rule stands above all: match your growth rate with your discount rate. Sounds simple, doesn’t it? But even seasoned attorneys, music publishers, and investors can find themselves in murky waters if they mix up nominal and real interest rates. Let’s clear the air:
Nominal vs. Real: A Quick Refresher
Think of nominal rates as your bedazzled, full-glam version—reflecting the current glitz and inflation of the market. Real rates, by contrast, are the stripped-down, no-frills edition. They focus solely on purchasing power, removing inflation from the equation.
As NYU Professor Aswath Damodaran, known as the valuation guru himself, and whose classes I have taken , reminds us of "Consistency Principle 1: Nominal cash flows should be discounted at nominal discount rates; Real cash flows should be discounted at real discount rates." Mismatching them is the financial equivalent of wearing sneakers to a black-tie gala—it simply doesn’t work.
Why It Matters in Intrinsic Valuation
Intrinsic valuation hinges on precision. When forecasting cash flows, you might account for inflation in your growth rate. If so, your discount rate must include inflation as well—because, like a perfect duet, these rates must harmonize.
Here’s the twist: forgetting to align nominal with nominal or real with real can lead to either undervaluation or overvaluation. For instance:
- Using a nominal growth rate with a real discount rate: You’ll underestimate the present value of cash flows, which can result in undervaluing assets—whether that’s a publishing catalog or a litigation award.
- Using a real growth rate with a nominal discount rate: You’ll inflate valuations like a poorly mixed cocktail—beautiful at first sip, but ultimately a headache.
Getting it Right: Application for Music Publishing Investors & Attorneys
For investors eyeing music publishing catalogs, growth rates often reflect expected increases in royalties—typically influenced by inflation. In this case, your discount rate should be nominal. Similarly, litigation attorneys evaluating settlement awards or damages tied to future earnings must remain vigilant in aligning these rates to avoid leaving money—or credibility—on the table.
Matchmaker, Matchmaker: Pair Your Rates Like a Pro
Matching your growth rate and discount rate is neither science nor art. It’s about making the best decisions with the data you have. And with that, should you wish your valuations to sparkle with clarity, my firm Boschan Corp. is here to assist - find more information about our services by clicking here.
