DCF Calculator
Calculate the intrinsic value of an investment using Discounted Cash Flow (DCF) analysis. DCF determines what an investment is worth today based on its future cash flows.
DCF Valuation Results
Cash Flow Analysis
Investment Decision
Understanding Discounted Cash Flow (DCF) Analysis
Discounted Cash Flow (DCF) analysis is a valuation method used to estimate the intrinsic value of an investment based on its expected future cash flows. DCF calculates what an investment is worth today by discounting all future cash flows back to their present value.
How DCF Analysis Works
The DCF formula for a single cash flow is:
PV = CF ÷ (1 + r)^t
Where: PV = present value, CF = cash flow, r = discount rate, t = time period
DCF Valuation Steps
- Project Cash Flows: Estimate future free cash flows for explicit forecast period
- Calculate Terminal Value: Estimate value at end of forecast period
- Discount Cash Flows: Apply discount rate to find present values
- Sum Present Values: Add all discounted cash flows
- Calculate Per Share Value: Divide by shares outstanding
- Compare to Market Price: Assess if investment is undervalued/overvalued
Key Components of DCF
- Free Cash Flow (FCF): Cash available to all investors after operating expenses and capital expenditures
- Growth Rate: Expected growth in cash flows during forecast period
- Discount Rate (WACC): Required rate of return considering risk
- Terminal Growth Rate: Long-term sustainable growth rate
- Terminal Value: Value of all future cash flows beyond forecast period
Terminal Value Calculation
Terminal value represents the value of all cash flows beyond the explicit forecast period. There are two main methods:
| Method | Formula | When to Use |
|---|---|---|
| Gordon Growth Model | TV = FCF × (1+g) ÷ (r-g) | Stable, mature companies |
| Exit Multiple | TV = FCF × Multiple | Comparable company analysis |
Discount Rate (WACC)
The discount rate represents the required rate of return that investors demand for the risk they're taking. For most DCF analyses, this is the Weighted Average Cost of Capital (WACC).
WACC Components:
- Cost of Equity (using CAPM)
- Cost of Debt (after-tax)
- Capital Structure Weights
- Tax Rate Adjustments
DCF Advantages
- Intrinsic Valuation: Based on fundamentals, not market sentiment
- Forward-Looking: Considers future performance expectations
- Flexible: Can be customized for different scenarios
- Comprehensive: Accounts for time value of money
- Risk-Adjusted: Incorporates discount rate for risk
DCF Limitations
- Forecast Accuracy: Highly dependent on cash flow projections
- Discount Rate Sensitivity: Small changes can dramatically affect valuation
- Terminal Value Assumptions: Long-term growth assumptions may be unrealistic
- Market Inefficiencies: Doesn't account for behavioral factors
- Complexity: Requires detailed financial analysis
Margin of Safety
A margin of safety is the difference between the intrinsic value and the market price. Value investors typically look for investments where the market price is significantly below the DCF value.
- Conservative Approach: Buy when market price = 70-80% of intrinsic value
- Risk Mitigation: Protects against forecasting errors
- Buffett's Philosophy: "Price is what you pay, value is what you get"
Common DCF Pitfalls
- Overly Optimistic Forecasts: Unrealistic growth assumptions
- Inconsistent Discount Rates: Using rates that don't match risk
- Ignoring Cyclicality: Not accounting for business cycles
- Double-Counting: Including effects in both cash flows and discount rate
- Static Assumptions: Not stress-testing different scenarios
Tip: DCF analysis is a powerful tool for fundamental investors, but it's only as good as the assumptions that go into it. Always perform sensitivity analysis on key inputs, use conservative estimates, and compare your DCF value to other valuation methods before making investment decisions.