Stub Period

Valuations rarely happen exactly at the start of a company's financial year. If a company with a December year-end is valued on 30 September, there are three months left before the next full year begins. Those three months form the stub period.

Analysts forecast cash flow for the stub period separately and discount it for the appropriate fraction of a year. For example, if the stub period's cash flow is 10 million and the discount rate is 10%, it might be discounted for a quarter of a year, giving a present value of about 9.76 million, or for an eighth of a year if the mid-year convention is used.

The following full years are then discounted from the valuation date, so the first full year's cash flow is discounted for 0.25 plus one year, or 0.25 plus half a year under the mid-year convention.

Handling stub periods correctly ensures that only future cash flows belonging to the buyer or investor are included and that each is discounted for the right length of time. The term is also used for short accounting periods, such as when a company changes its year-end.