Free Cash Flows, Valuation and Growth Opportunities Bias

Journal of Investment Management (JOIM), Fourth Quarter, 2014

Posted: 15 Nov 2014

See all articles by Hersh Shefrin

Hersh Shefrin

Santa Clara University - Leavey School of Business

Date Written: November 13, 2014

Abstract

Analysts who base valuations on expected free cash flows are vulnerable to making biased assessments of terminal value because they fail to take into account the implications of disappearing growth opportunities during the terminal period. This leaves their valuations subject to “growth opportunities bias” (GOB). There are two sets of issues addressed in this paper, one narrow and the other broad. The narrow issues pertain to the basis for GOB, a technique for addressing it, and examples to illustrate the debiasing technique. The broader issues pertain to group psychology in respect to the manifestation of GOB in the analyst community, including the CFA Institute which certifies analysts.

Keywords: Terminal value, growth opportunities bias, growth rate, debiasing, confirmation bias, groupthink, cognitive dissonance

JEL Classification: G00

Suggested Citation

Shefrin, Hersh, Free Cash Flows, Valuation and Growth Opportunities Bias (November 13, 2014). Journal of Investment Management (JOIM), Fourth Quarter, 2014. Available at SSRN: https://ssrn.com/abstract=2524108

Hersh Shefrin (Contact Author)

Santa Clara University - Leavey School of Business ( email )

Dept. of Finance
Santa Clara, CA 95053
United States
408-554-6893 (Phone)
408-554-4029 (Fax)

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