Complete Guide
DCF Modeling
The discounted cash flow model is the foundation of valuation. Learn to build DCFs from scratch and nail the technical questions in interviews.
What Is a DCF Model?
A discounted cash flow (DCF) model values a company based on its expected future cash flows, discounted back to present value. The core concept is simple: a dollar today is worth more than a dollar tomorrow.
DCFs are considered "intrinsic" valuation because they value a company based on its own fundamentals, not relative to other companies. This makes DCFs powerful but also sensitive to your assumptions.
Core Concept
Present value of all future cash flows the company will generate
Discounting
Future cash flows are worth less today due to time value of money
Intrinsic Value
Based on fundamentals, not what others are paying for similar assets
Output
Enterprise value, then bridge to equity value and per-share price
Building a DCF Model: 4 Key Steps
Project Free Cash Flows
Build operating projections and calculate unlevered free cash flow
- Revenue projections
- Operating margins
- Capital expenditures
- Working capital changes
Calculate WACC
Determine the weighted average cost of capital for discounting
- Cost of equity (CAPM)
- Cost of debt (YTM)
- Target capital structure
- Tax shield on debt
Calculate Terminal Value
Estimate the value of cash flows beyond the projection period
- Gordon Growth Model
- Exit Multiple Method
- Perpetuity growth rate
- Terminal multiple selection
Discount & Sum
Bring future cash flows to present value and calculate enterprise value
- Mid-year convention
- Present value factors
- Enterprise to equity bridge
- Per share value
Understanding WACC
WACC is the most tested DCF concept in interviews. Know every component cold.
| Component | Method | Typical |
|---|---|---|
| Cost of Equity | CAPM: Rf + β × (Rm - Rf) | 8-15% |
| Risk-Free Rate | 10-year Treasury yield | 4-5% |
| Beta | Regression vs market or peer comps | 0.8-1.5 |
| Equity Risk Premium | Historical market premium | 5-7% |
| Cost of Debt | YTM on existing debt or comps | 5-8% |
| Target D/E Ratio | Current structure or industry average | 20-50% |
Interview Tip
Be ready to walk through WACC component by component. "We use CAPM for cost of equity, which requires the risk-free rate (10-year Treasury), beta (company-specific systematic risk), and the equity risk premium..."
6 DCF Mistakes That Kill Your Model
Inconsistent assumptions
Fix: Growth rates should align with margins and reinvestment
Unrealistic terminal growth
Fix: Terminal growth should be ≤ GDP growth (2-3%)
Wrong FCF formula
Fix: Use UNLEVERED FCF (before interest), not cash from operations
Forgetting mid-year convention
Fix: Cash flows arrive throughout the year, not at year-end
Double-counting growth
Fix: Exit multiple and growth rate are both estimating the same thing
WACC ≠ discount rate always
Fix: Use cost of equity for FCFE, WACC for FCFF
Common DCF Interview Questions
Get Full Answers + DCF Templates
Our Valuation Mastery course covers every question with detailed explanations plus 3 fully-built DCF models.
Get the Full Course, $49Master DCF and All Technical Topics
DCF is just one chapter. The Finance Technical Interview Guide covers all 8 core topics, Accounting, EV/Equity Value, DCF, Comps, M&A, LBOs, Advanced Valuation, and Complex Accounting, in 80+ pages with frequency-tagged questions.