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What is the best online tutorial to learn calculating DCF (Discounted Cash Flow) for a stock?

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Hi gyurisc. Welcome & thanks for the good question! –  Chris W. Rea Dec 15 '09 at 15:05

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Here's a link to an online calculator employing the Discounted Cash Flow method: Discounted Cash Flows Calculator. Description:

This calculator finds the fair value of a stock investment the theoretically correct way, as the present value of future earnings. You can find company earnings via the box below. [...]

They also provide a link to the following relevant article: Investment Valuation: A Little Theory. Excerpt:

A company is valuable to stockholders for the same reason that a bond is valuable to bondholders: both are expected to generate cash for years into the future. Company profits are more volatile than bond coupons, but as an investor your task is the same in both cases: make a reasonable prediction about future earnings, and then "discount" them by calculating how much they are worth today. (And then you don't buy unless you can get a purchase price that's less than the sum of these present values, to make sure ownership will be worth the headache.) [...]

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Check out Professor Damodaran's website: http://pages.stern.nyu.edu/~adamodar/ . Tons of good stuff there to get you started. If you want more depth, he's written what is widely considered the bible on the subject of valuation: "Investment Valuation".

DCF is very well suited to stock analysis. One doesn't need to know, or forecast the future stock price to use it. In fact, it's the opposite. Business fundamentals are forecasted to estimate the sum total of future cash flows from the company, discounted back to the present. Divide that by shares outstanding, and you have the value of the stock.

The key is to remember that DCF calculations are very sensitive to inputs. Be conservative in your estimates of future revenue growth, earnings margins, and capital investment. I usually develop three forecasts: pessimistic, neutral, optimistic. This delivers a range of value instead of a false-precision single number.

This may seem odd: I find the DCF invaluable, but for the process, not so much the result. The input sensitivity requires careful work, and while a range of value is useful, the real benefit comes from being required to answer the questions to build the forecast. It provides a framework to analyze a business. You're just trying to properly fill in the boxes, estimate the unguessable. To do so, you pore through the financials. Skimming, reading with a purpose. In the end you come away with a fairly deep understanding of the business, how they make money, why they'll continue to make money, etc.

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what do you mean exactly? Do you have a future target price and projected future dividend payments and you want the present value (time discounted price) of those?

Edit:

The DCF formula is difficult to use for stocks because the future price is unknown. It is more applicable to fixed-income instruments like coupon bonds. You could use it but you need to predict / speculate a future price for the stock.

You are better off using the standard stock analysis stuff: Learn Stock Basics - How To Read A Stock Table/Quote

The P/E ratio and the Dividend yield are the two most important. The good P/E ratio for a mature company would be around 20. For smaller and growing companies, a higher P/E ratio is acceptable. The dividend yield is important because it tells you how much your shares grow even if the stock price stays unchanged for the year.

HTH

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Tip: try use the comment feature in the question area for items like this instead of the answer feature. –  Zephyr Dec 16 '09 at 16:46
    
Yes, I am looking for a way to calculate the future value of a stock based on the company's free cash flow and it's growth over time discounted back to present. –  gyurisc Dec 17 '09 at 6:47
    
What Does Discounted Cash Flow - DCF Mean? A valuation method used to estimate the attractiveness of an investment opportunity. Discounted cash flow (DCF) analysis uses future free cash flow projections and discounts them (most often using the weighted average cost of capital) to arrive at a present value, which is used to evaluate the potential for investment. If the value arrived at through DCF analysis is higher than the current cost of the investment, the opportunity may be a good one. This is the definition from investopedia investopedia.com/terms/d/dcf.asp –  gyurisc Dec 17 '09 at 6:48
    
You are correct, this method does not give you the exact value, but it provides you an estimated value and you can have a feel, if the stock is underpriced or overpriced. If you see that the current price is 50% lower or more than the DCF value, then there is a good chance that this is an undervalue stock. –  gyurisc Dec 19 '09 at 7:22
    
"The DCF formula is difficult to use for stocks because the future price is unknown." The future price of what? The stock? Stock price is the answer, not the input. Input is cash flows in perpetuity, discounted to present. To get this requires some degree of business analysis and forecasting. But it certainly can be done. The result is a range of value: what the company is worth. Theoretical, ideal stock price derives from that. The idea is that over time stock price wanders, but gravitates to the 'value point', or range. –  joe Dec 6 at 6:48

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