DCF (Discounted Cash Flow)
A method that converts future earnings into present value and adds them up to estimate a "theoretical fair value."
Sum of each future year's earnings ÷ (1 + discount rate)^year
If the estimated DCF value is higher than the current share price, the price can be seen as falling short of that figure in theory; if lower, as exceeding it.
In plain terms
$1,000 today and $1,000 ten years from now are not worth the same. Money in the future has to be marked down accordingly (because of the opportunities and risks over the waiting period).
DCF estimates the earnings a company will bring in year by year, discounts them more heavily the further into the future they are to convert them into today's value, and then adds them all up. That total is "what this company is worth in theory."
What it tells you
It is a framework for gauging whether the current share price sits low or high relative to the company's future value.
If PER and PBR are "relative value compared with others," DCF is closer to "absolute value" starting from the company's own cash-generating power.
Formula
Sum of each future year's earnings ÷ (1 + discount rate)^year (the further out the year, the more it is discounted back to present value)
What high or low means
If the estimated DCF value is higher than the current share price, the price can be seen as falling short of that figure in theory; if lower, as exceeding it.
That said, it is only an estimate based on assumptions, so it is one reference framework rather than a correct answer.
DCF is highly sensitive to assumptions. Even a small change in the future growth rate or discount rate shifts the result greatly — hence the saying "put in rough assumptions, get out a rough answer."
So it is not a tool for arriving at a single correct answer, but one for trying various assumptions and examining "what premises would justify the current share price."
It is especially hard to apply to companies that are loss-making or whose future is uncertain.
Metrics to read alongside
See it in real stocks
Search US stocks on Stocklore to see DCF alongside the sector benchmark.
This explanation is for information and reference only and is not a recommendation to buy or sell any security. Investment decisions and their consequences are your own.