Formally expressed by John Burr Williams for the first time in 1938, DCF is a valuation model that involves the evaluation of a project, company, or an asset by estimating future cash flows and taking into consideration the time value of money. Under this approach, all future cash flows are estimated and discounted to give their present values. Typically, the appropriate Weighted average cost of capital (WACC) is taken as the discount rate to arrive at a present value. If the value obtained through DCF model is greater than the current cost of the investment, the opportunity may be worthwhile.
DCF= CF1/(1+r)^1 + CF2/(1+r)^2 +......+CFn/(1+r)^n
CF= Cash Flow
r= discount rate (WACC)
DCF is also called the sum of a series of future cash flows, on a present value basis. Reasonable estimation of projected cash flows is quite crucial and a professional must work with management to gain an insight thorough comprehensive understanding of the project, company, or asset. Sometimes, it is quite difficult to estimate for e.g research and development costs etc. The model assumes that all cash inflows are reinvested in other projects of the company.