© 2011 Sixhills Consulting LtdThere are three essential steps in actually performing discounted cash flow (DCF) modelling• Determine the appropriate opportunity cost of capital - this varies by company and is usually set by the Finance organisation for business cases• Use the opportunity cost of capital (WACC*) to discount the forecast cash flows - NPV is the difference between the PVs of benefits and costs• Forecast cash flows over a project or company’s useful economic lifeDiscounted Cash Flow Analysis•Free Cash Flow =Earnings Before Interest, Tax, Depreciation and Amortisation (EBITDA)Less: Changes in working capitalLess: TaxesLess: Capital expenditureUsing un-inflated (“real”) cash values, using a real* discount rate* WACC: Weighted Average Cost of Capital = (cost of equity) X (proportion of capital that is equity) + (cost of debt) X (proportion of capital that is debt) – a “nominal” rate (e.g., for cost of equity) is such that would be obtained from a financial institution for investments, a “real” rate is the nominal rate less inflationP8IT Commercial Skills Development - Part 1
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