Discounted Cash Flow (DCF)
DCF is a valuation method that estimates the value of an investment based on its expected future cash flows, discounted to present value.
Concept map
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Definition
DCF is a valuation method that estimates the value of an investment based on its expected future cash flows, discounted to present value.
Use case
Used in valuation workflows, analysis, and technical interviews.
Judgment check
Useful only when the assumptions and inputs behind the metric are understood.
Deep dive
How to think about Discounted Cash Flow (DCF)
The DCF model is fundamental in investment banking and equity research. It involves projecting free cash flows, determining an appropriate discount rate (usually WACC), calculating terminal value, and summing all discounted cash flows. Sensitivity analysis is crucial as small changes in assumptions can dramatically affect valuation.
Example: A DCF values Company X at $50/share: projecting 10 years of cash flows ($100M growing at 5%), discounting at 9% WACC, adding terminal value (exit multiple of 8x EBITDA), and dividing by shares outstanding (20M).
Rank-ready answer
Definition, example, and interview framing
DCF is a valuation method that estimates the value of an investment based on its expected future cash flows, discounted to present value.
A DCF values Company X at $50/share: projecting 10 years of cash flows ($100M growing at 5%), discounting at 9% WACC, adding terminal value (exit multiple of 8x EBITDA), and dividing by shares outstanding (20M).
In an interview, define Discounted Cash Flow (DCF), explain where it appears in a real finance workflow, then name one assumption or limitation that a reviewer should check.
FAQ
Frequently Asked Questions
What is Discounted Cash Flow (DCF)?
DCF is a valuation method that estimates the value of an investment based on its expected future cash flows, discounted to present value.
How is Discounted Cash Flow (DCF) used in finance?
The DCF model is fundamental in investment banking and equity research. It involves projecting free cash flows, determining an appropriate discount rate (usually WACC), calculating terminal value, and summing all discounted cash flows. Sensitivity analysis is crucial as small changes in assumptions can dramatically affect valuation.
Can you give an example of Discounted Cash Flow (DCF)?
A DCF values Company X at $50/share: projecting 10 years of cash flows ($100M growing at 5%), discounting at 9% WACC, adding terminal value (exit multiple of 8x EBITDA), and dividing by shares outstanding (20M).