DCF valuation explained without the spreadsheet trauma
Discounted cash flow in plain English: what it's actually estimating, the three inputs that move it, and when not to use it.
A DCF estimates what a business is worth today based on the cash it can return to owners over its life. Three inputs do most of the work — and most analysts misuse them.
The three inputs that move the model
Stop tweaking the working-capital tab. The fair value range is driven by:
- Free cash flow growth rate over the next 5–10 years
- Terminal growth rate (the rate forever after the explicit forecast)
- Discount rate (WACC) — your required return for taking the risk
Stress-test, don't point-estimate
A DCF that produces a single fair value number is wrong; a DCF that produces a range is useful. Run three scenarios (bear, base, bull) and check whether today's price implies assumptions you'd be willing to defend.
When not to use a DCF
Early-stage tech, commodity producers, and banks all break the standard DCF in different ways. Use comparable multiples or sum-of-the-parts instead, and always disclose the model's limits to yourself before you trust the output.
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