DCF analysis is widely used by investment bankers and other finance professionals. Even though determining a company’s DCF is a fairly lengthy and involved process, some retail investors like to perform their own calculations rather than rely on the word of analysts. Whether you calculate DCF on your own or take the word of analysts, it’s important to consider the method’s strengths and weaknesses.
- DCF offers the closest estimate of a stock’s intrinsic value. It’s considered the most sound valuation method if the analyst is confident in his or her assumptions.
- Unlike other valuation methods, DCF relies on free cash flows, considered to be a reliable measure that eliminates subjective accounting policies.
- DCF isn’t significantly influenced by short-term market conditions or non-economic factors.
- DCF is particularly useful when there’s a high degree of confidence regarding future cash flows.
- DCF valuation is very sensitive to the assumptions/forecasts made by the analyst. Even small adjustments can cause DCF valuation to vary widely – which means the fair value may not be accurate.
- DCF tends to be more time-intensive compared with other valuation techniques.
- DCF involves forecasting future performance, which can be very difficult, especially if the company isn’t operating with 100% transparency.
- DCF valuation is a moving target: if any company expectations change, the fair value will change accordingly.
DCF Analysis: Conclusion
InvestingLearn how and why investors are using cash flow-based analysis to make judgments about company performance.
Personal FinanceDCF and Comparables models are widely used in equity valuation. We explain the pros and cons of each method.
InvestingLearn how to filter out the noise of the market place in order to find a solid way of determing a company's value.
InvestingDiscover how investors can use this valuation method to determine the intrinsic value of a stock.
InvestingWe explain the two primary valuation techniques—DCF and Comparables—used to predict future stock prices.
Small BusinessValuing a company is a difficult task, regardless of the size of the business - but these methods can help.
InvestingDon't be overwhelmed by the many valuation techniques out there - knowing a few characteristics about a company will help you pick the best one.
InvestingFor some investors, the possibility of stumbling upon a small biotech with a potential blockbuster drug, or a junior miner with a giant mineral discovery, makes the risk of investing in companies ...