DCFs are worthless, change my mind
Assume that you only want to value a company to decide whether you’d invest in it, so I’m not counting like an official company ESOP valuation situation where a DCF is necessary and it’s a valuation firm doing it.
I can make a DCF spit out whatever value I want just by tweaking assumptions, and even if I try to do it objectively, if you told 10 people to do it you’d get 10 widely varied sets of assumptions.
If a company is growing quickly, then the terminal value becomes like 80% of the total value if you project out 5 years, and projecting out beyond 5 years is like flipping a coin.
Even if my assumptions are correct, it doesn’t matter if a company theoretically “should” be trading at 10x EV/EBITDA when historically its always traded at 20x EV/EBITDA because people like to buy software companies.
Imo it’s intellectual masturbation, and I’d genuinely love to hear counterarguments
Most of ib is intellectual masturbation
It depends on the type of business.
DCF is valuable when you are looking at a mature company with reasonably predictable cash flows and growth or in project finance where you might know what cashflows look like 15-20 years out (e.g. a power station with a PPA or a PPP project with contractual cashflows). In these cases you can nail down most of the assumptions and most people would come to a similar valuation.
You're right in saying that its not as useful for high-growth situations but its just another data point to be used with trading and transactions comps.
agree
Strongly disagree - The DCF forces the buyer to think about all these items (impact of competition on margins, required capex to achieve growth, sustainable opex level when growth rates decline, etc etc).
You apply a 5y explicit forecast and gordon growth terminal value on a fast growing company. The problem is not the model, but the way you use it. If you have any view on changing growth rates etc that go beyond the 5y horizon of your standard model: expand the explicit forecast or your terminal value will be based on garbage.
With regards to terminal value: read about the value driver method: a more sophisticated appraoch to it than that stupid gordon growth formula that lets companies make 50% RONIC for forever while WACC is 10% (that should attract competition...).
Regarding software companies: DCF perfectly explains why they are popular: in a steady state they print money because of sustainable (recurring) top line, very high gross margins, hardly any opex/capex. Car producer A, food retailer B or fashion brand C all can't promise me that.
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