###### What is a DCF?

###### Where does your data come from?

###### How can I trust your DCF model?

###### Base Year, Years 1-10 & Terminal Year

The base year stands for the current year you are in, specifically the Trailing Twelve Months (TTM). The reason why we use the TTM and not the annual financial results is because it's the most up to date financial information for the company.

1, 2, 3... 10 stands for the subsequent yearly data. For example if you are valuing a company on the 21st November 2020 and the most recent TTM data was last released on the 20th October 2020 then next year (base year) will be from 21st November 2020 to 21st November 2021 and the same for the next years after that. So the years represent the subsequent years **after** the most recent financial results were released and not when you are doing the DCF.

The terminal year is all of the years after year 10 up to infinity. It's not possible to model that far out into the future and even 10 years is hard so we just assign a terminal year to solve this as best we can. The reason why it works doing it forever is because the discount rate eventually makes the terminal value worthless after so many years.

###### Revenue

The revenue growth rate is one of the main value drivers that really affects the estimated value per share. So it is really important that you choose a realistic growth rate for your DCF. We provide a CAGR input for you in the cell: 'Required Inputs'!$B1.

Compound Annual Growth Rate (CAGR) is the average growth rate that you think will happen for the company from year 1-5 revenues. We then use this as the revenue growth for years 1-5. To figure out what to put in this input you need to check the companies previous revenue growth rates, the industry average compared to year 10 revenue growth and also your thoughts on the future of the company.

From years 6-10 revenues we slightly reduce the growth rate each year. This is to safe guard you against putting in an unreasonably large revenue growth rate. It's also more realistic in most cases due to companies growth slowing as their revenue becomes bigger and the company matures. The terminal growth year is then set to be equal to year 10's growth rate.

###### Operating Margin

Operating Target Margin is the other main value driving input that heavily affects your DCF. We provide an input for you in the cell: 'Required Inputs'!$B2.

We use the operating margin input in Years 1-10 and set the terminal year to be equal to year 10. To figure out what to put in this input you need to check the companies current Operating margin, the industries average Operating margin and also your thoughts on what type of margin the company can achieve by year 10. This will differ greatly depending on how much of a moat your company has. For example, a company like Boeing is in a duopoly with Airbus so it should be able to hold it's current margins for a very long time.

The Year of Convergence input also affects the Operating Margin calculations. We provide an input for you in the cell: 'Required Inputs'!$B3.

The Operating Margin will slowly converge from the base years margin to your Operating margin in year 10. The speed at which this happens depends on the Year of Convergence that you type in to this input.

###### Tax Rate

###### NOPAT

###### Reinvestment

###### FCFF

###### NOL

###### Cost of Capital

The inputs for this are the sections in 'Optional Inputs'!$A1:$E1 which are Pre-tax Cost of Debt, Book Value of Convertible Debt and Number of Preferred Shares. Weighted Cost of Capital (WACC) has multiple elements that go in to calculating it. There are also different techniques to working out the WACC. We use Aswath Damodaran's bottom-up beta instead of the CAPM model. We believe this is a much better representation of risk. The elements that go into a companies WACC are:

- Risk Free Rate - The return you could get in the same currency with 0 risk. We use the last closing daily yield for the gb in the same currency that the valuation is being done in. The ads is the default chance in % for the country where the government bond is being used. The reason for this is that a lot of countries do not have Aaa ratings so they have default risk and therefore are not risk free so we have to adjust for that.Formula: rfr = gb - ads
- where
- rfr = Risk Free Rate
- gb = Government Bonds 10 Year Yield
- ads = Adjusted Default Spread

- Equity Risk Premium - The additional return demanded by investors for investing in that country. We set the mmerp to be the US because it is an establish mature market. The crp is going to be the spread between the country your company is in vs the mmerp. For example, if the mmerp is 5.23% then the US has an erp of 5.23% as it has no crp because it's credit rating is Aaa. The UK has a credit rating of AA2 which is lower than the US, it therefore has a crp of 0.73%. So the UK's erp is 5.96%. Investors demand more return for investing in the UK because the default chance is higher.Formula: erp = mmerp + crp
- where
- erp = Equity Risk Premium
- mmerp = Mature Market Equity Risk Premium
- crp = Country Risk Premium

- Estimated Pre-tax Cost of Debt - Each company has a cost of raising debt. The more debt a company raises the higher the chance of default but the tax benefits of offsetting interest payments also increases.Formula: pt = rfr + is + ads
- where
- pt = Estimated Pretax Cost of Debt
- rfr = Risk Free Rate
- is = Interest Spread
- ads = Adjusted Default Spread

- Estimated Market Value of Normal Debt - The market value of Normal debt.Formula: cd = ie * (1 - (1 + pt) ** - m)) / pt + bd / (1 + pt) ** m
- where
- cd = Estimated Market Value of Normal Debt in Convertible
- ie = Interest Expense
- pt = Pre-tax Cost of Debt
- m = Average Maturity of Debt
- bd = Book Value of Debt

- Estimated Market Value of Normal Debt in Convertible - The market value of Normal debt in convertible.Formula: cd = iecd * (1 - (1 + pt) ** - mcd)) / pt + bcd / (1 + pt) ** mcd
- where
- cd = Estimated Market Value of Normal Debt in Convertible
- iecd = Interest Expense on Convertible Debt
- pt = Pre-tax Cost of Debt
- mcd = Maturity of Convertible Debt
- bcd = Book Value of Convertible Debt

- Debt Market Value - The market value of debt.Formula: d = sd + cd
- where
- d = Debt Market Value
- sd = Estimated Market Value of Normal Debt
- cd = Estimated Market Value of Normal Debt in Convertible

- Equity Market Value - The market value of equity. We use the market value and not book value because it's the theoretical price you would have to pay to acquire the company.Formula: em = p * so
- where
- em = Equity Market Value
- p = Current Stock Price
- so = Shares Outstanding

- Preferred Stock Market Value - The market value of Preferred Stock outstanding.Formula: ps = n * mp
- where
- ps = Preferred Stock Market Value
- n = Number of Preferred Shares Outstanding
- mp = Market Price Per Share

- Total Market Value - The sum of Total Market Value.Formula: tm = em + d + ps
- where
- tm = Total Market Value
- em = Total Equity Market Value
- d = Total Debt Market Value
- ps = Total Preferred Stock Market Value

- Unlevered Beta - The risk a company has in it's industry relative to other companies. We use a bottom-up beta for this. Currently we only use a single industry that we get from our API for the company. We will support multiple industries for this field in the future. For 95% of companies a single industry is fine. We lookup the average unlevered beta for your companies industry and set this field equal to it.Formula: ub = iub
- where
- ub = Unlevered Beta
- iub = Industry Average Unlevered Beta

- Levered Beta - The risk a company has in it's industry relative to other companies including how leveraged it is, i.e debt. Leverage varies across industries, for example the air transport industry has to take on a lot of debt to purchase or lease expensive airplanes, whereas a software company might only have to take on a small amount of debt. We need to take this into account when determining risk as the more debt a company has, the more likely it is to default on that debt.Formula: lb = ub * (1 + (1 - t) * (d / e))
- where
- lb = Levered Beta
- ub = Unlevered Beta
- t = Marginal Tax Rate
- d = Debt Market Value
- e = Equity Market Value

- Cost of Preferred StockFormula: cps = anp / mp
- where
- cps = Cost of Preferred Stock
- anp = Annual Dividend PerShare
- mp = Market Price Per Share

- Equity Weight - Weighted % of equity.Formula: we = em / tm
- where
- we = Weighted % of equity
- em = Equity Market Value
- tm = Total Market Value

- Debt Weight - Weighted % of debt.Formula: wd = d / tm
- where
- wd = Weighted % of Debt
- d = Debt Market Value
- tm = Total Market Value

- Preferred Stock Weight - Weighted % of preferred stock.Formula: wps = ps / tm
- where
- wps = Weighted % of Preferred Stock
- ps = Preferred Stock Market Value
- tm = Total Market Value

- Total Weight - Total weight in cost of capital.Formula: twc = we + wd + wps
- where
- twc = Total Weight Cost of Capital
- we = Weighted % of equity
- wd = Weighted % of Debt
- wps = Weighted % of Preferred Stock

- Equity Cost of CapitalFormula: ecc = rfr + lb + erp
- where
- ecc = Equity Cost of Capital
- rfr = Risk Free Rate
- lb = Levered Beta
- erp = Equity Risk Premium

- Debt Cost of CapitalFormula: dcc = pt * t
- where
- dcc = Debt Cost of Capital
- pt = Estimated Pretax Cost of Debt
- t = Marginal Tax Rate

- Preferred Stock Cost of CapitalFormula: ps = cps
- where
- ps = Preferred Stock Cost of Capital
- cps = Cost of Preferred Stock

- Cost of Capital (WACC) - The total cost of raising capital for the company weighted by the type of capital it raises, i.e equity, debt or preferred stock. For example, if a company raises 80% of it's capital in equity then the weight for equity will be set to 80% as equity would have more of an affect on the cost of the capital.Formula: wacc = we * e + wd * d + wps * ps
- where
- wacc = Weighted Average Cost of Capital
- we = Weighted % of equity
- e = Equity Cost of Capital
- wd = Weighted % of Debt
- d = Debt Cost of Capital
- wps = Weighted % of Preferred Stock
- ps = Preferred Stock Cost of Capital