The DCF method estimates a company's intrinsic value by projecting future free cash flows and discounting them back to present value using a discount rate (typically the weighted average cost of capital, or WACC). If the DCF value is higher than the current stock price, the stock may be undervalued.
The formula requires estimating future cash flows (usually 5-10 years out), calculating a terminal value for all cash flows beyond that period, and choosing an appropriate discount rate. Small changes in assumptions can dramatically affect the result, which is both the method's greatest strength and weakness.
Comparable analysis values a company by comparing its valuation multiples (P/E, EV/EBITDA, P/S) to similar companies in the same industry. The logic is that similar companies should trade at similar multiples.
The key challenge is selecting truly comparable peers. Companies in the same industry can have vastly different growth rates, margins, and risk profiles. Despite its simplicity, comps analysis is the most widely used valuation method on Wall Street due to its practicality.
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