LETS
UNDERTAND
DCF
VALUATION
-Like Buying a
Lemonade Stand 🍋
STORY INTRO
Imagine you want to buy a lemonade stand… but
how do you know if the price is fair?
💡 Most people look at current earnings or compare with
others.
But smart investors think differently.
They ask:
"How much money will this stand make in the future…
and what is that worth today?"
That’s the secret behind DCF Valuation.
LET ME EXPLAIN THIS IN SIMPLE WAY!!
Step 1: Forecasting
Future Cash Flows
Imagine the lemonade stand will make
₹100 next year, ₹120 year after that, and
₹140 at year3.
You just wrote a simple forecast of future
cash flows.
But wait… future cash isn’t worth the
same as today’s cash.
Why? Because of time, inflation, and risk.
This is where the magic of DCF comes in.
Step 2: Discounting
Future Cash Flows
To know what these future rupees are
worth TODAY, we apply a “discount rate”.
💡 Think of it like this:
₹100 today is worth more than ₹100 a year
from now, because you could invest it
elsewhere.
Formula (don’t panic):
Present Value = Future Cash Flow ÷ (1 + Discount
Rate)^Years
Example:
Year 1 → ₹100 ÷ (1 + 10%)^1 = ₹91
Year 2 → ₹120 ÷ (1 + 10%)^2 = ₹99
Year 3 → ₹140 ÷ (1 + 10%)^3 = ₹105
Total Present Value = ₹91 + ₹99 + ₹105 = ₹295
Step 3: Adding the
Terminal Value
Wait, we can’t forget the “Terminal Value”!
It’s like estimating the value of the
lemonade stand forever after year 3.
formula (simplified):
Terminal Value ≈ Last Year Cash Flow × (1 +
Growth Rate) ÷ (Discount Rate – Growth Rate)
Let’s say Terminal Value = ₹140 × (1 + 3%) ÷ (10% –
3%) ≈ ₹2060
Then… we discount this Terminal Value to today:
₹2060 ÷ (1 + 10%)^3 ≈ ₹1545
Adding everything up:
₹91 + ₹99 + ₹105 + ₹1545 ≈ ₹1840
This is the fair value of the lemonade stand today!
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