The Ultimate Guide to Discounted Cash Flow (DCF) Valuation

A Discounted Cash Flow (DCF) model is a powerful tool for valuing a company by estimating its future cash flows and discounting them to present value. The model helps investors and analysts determine whether an asset is overrated or undervalued. To build a robust DCF model, one must forecast free cash flows, determine the discount rate, calculate the terminal value, discount future cash flows to present value, and calculate the intrinsic value per share. Free cash flows are estimated using a formula that accounts for earnings, taxes, depreciation, and capital expenditures. The discount rate is typically the Weighted Average Cost of Capital (WACC), which considers debt and equity financing. The terminal value accounts for value beyond the forecast period and can be calculated using the Gordon Growth Model or the Exit Multiple Method. The present value of future cash flows is calculated using the discount rate, and the intrinsic value per share is determined by subtracting net debt from the enterprise value and dividing by shares outstanding. A well-based DCF model provides deep insights into a company's intrinsic value, but it is sensitive to assumptions about growth, discounts, and market conditions. Conducting sensitivity analysis and comparing results with alternative valuation techniques can improve accuracy. By learning DCF modeling, investors can make informed decisions and identify undervalued opportunities in the market.