Walk Me Through a DCF
investment bank interview interrogate
Updated February 25, 2022
Reading: Walk Me Through a DCF
Walk me through a DCF analysis interview question
If you ’ re going for an investment bank interview, you ’ re about guaranteed to get a question along the lines of… “ Walk me through a DCF analysis ” or, “ How would you build a DCF model ? ”
The super fast answer is: Build a 5-year prognosis of unlevered loose cash hang based on fair assumptions, calculate a terminal rate with an exit multiple set about, and discount wholly those cash flows to their present respect using the company ’ sulfur WACC .
Of run, it ’ mho besides a bite more complicated than that… To answer this interview question in more detail, we ’ ve broken it down into several basic steps below .
The key to answering “ Walk me through a DCF ” is a structured approach… and lots of direct experience build DCF models in Excel .
Screenshot of a DCF model from CFI ’ s on-line fiscal model courses !
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Walk me through a DCF Step 1 – Build a forecast
The foremost mistreat in the DCF model work is to build a bode of the three fiscal statements based on assumptions about how the business will perform in the future. On modal, this calculate typically goes out about five years. Of course, there are exceptions, and it may be longer or shorter than this .
The prognosis has to build up to unlevered free cash flow ( loose cash flow to the firm or FCFF ). We ’ ve published a detail usher on how to calculate unlevered free cash flow, but the immediate answer is to take EBIT, less capital expenditures, plus disparagement and amortization, less any increases in non-cash work capital .
See our ultimate cash stream guide to learn more about the assorted types of cash flows.
Walk me through a DCF Step 2 – Calculate the Terminal Value
We continue walking through the DCF model by calculating the terminal rate. There are two approaches to calculating a terminal value : ceaseless growth rate and exit multiple .
In the ageless growth rate proficiency, the business is assumed to grow it ’ s unlevered free cash flow at a steady rate forever. This growth rate should be fairly moderate, as, differently, the caller would become unrealistically big. This poses a challenge for valuing early-stage, high-growth businesses .
With the exit multiple approach, the commercial enterprise is assumed to be sold based on a valuation multiple, such as EV/EBITDA. This multiple is typically based on comparable company analysis. This method acting is more common in investment deposit .
Walk me through a DCF Step 3 – Discount the cash flows to get the present value
In gradation 3 of this DCF walk-through, it ’ s time to discount the calculate period ( from measure 1 ) and the terminal respect ( from step 2 ) back to the present value using a discount rate. The deduction rate is about always equal to the company ’ sulfur weighted average cost of capital ( WACC ) .
See our guide to calculating WACC for more details on the subject, but the quick drumhead is that this represents the want pace of render investors expect from the company and frankincense represents its opportunity cost .
The best way to calculate the introduce value in Excel is with the XNPV function, which can account for raggedly spaced out cash flows ( which are identical common ).
Additional DCF Notes
At this point, we ’ ve arrived at the enterprise value for the business since we used unlevered free cash menstruation. It ’ s possible to derive fairness value by subtracting any debt and adding any cash on the remainder plane to the enterprise value. See our guide on equity value vs. enterprise respect .
At this point in the mold serve, an investing bank analyst will typically perform extensive sensitivity and scenario analysis to determine a reasonable range of values for the business, as opposed to arriving at a curious value for the ship’s company. By now, you ’ ve actually satisfied the question of “ Walk me through a DCF analysis. ”
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Additional investment banking interview resources
By now, you ’ re all set to properly answer “ Walk me through a DCF model ” or “ How do you perform a discount cash flow analysis ” in an interview .
CFI is the official provider of the ball-shaped Financial Modeling and Valuation Analyst ( FMVA ) ® authentication program, designed to help anyone become a first fiscal analyst .
To make certain you ’ ll be completely fix, check out these extra resources below :