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Discounted Cash Flow
A valuation method that estimates present value of a company's future cash flows.
Discounted Cash Flow (DCF)
DCF analysis estimates what a business is worth today based on the cash it will generate in the future.
Core concept
A dollar received in the future is worth less than a dollar today due to the time value of money. DCF "discounts" future cash flows back to present value.
Steps
- Project future free cash flows for 5–10 years
- Estimate a terminal value for cash flows beyond the projection period
- Choose a discount rate (typically WACC—weighted average cost of capital)
- Sum the present values of all projected cash flows
Formula
PV = CF₁/(1+r)¹ + CF₂/(1+r)² + ... + TV/(1+r)ⁿ
Strengths
- Based on fundamentals, not market sentiment
- Forces detailed analysis of the business
Weaknesses
- Highly sensitive to assumptions (small changes in growth rate or discount rate significantly change the output)
- Garbage in, garbage out—only as good as your projections
Key Takeaways
- Context matters when interpreting any financial metric.
- Combine multiple data points for informed decisions.
- Continue learning to build investment knowledge.
Quick Reference
Category
Valuation
Difficulty
Beginner
Reading Time
1 min
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Learn More
Where You'll See This
This concept appears throughout stock detail pages and financial data.