The Damodaran DCF
This is the theory underneath every other method in this course: a business is worth the cash it will hand its owners over its life, discounted back to today. It's the most rigorous way to value anything — and, precisely because it forecasts the future, the easiest to fool yourself with. The trick is to use it for its honest answer: a range and a direction, never a single “true” price.
01Where it comes from
The idea is old — John Burr Williams laid it out in 1938 — but its modern teacher is Aswath Damodaran of NYU Stern, widely called “the Dean of Valuation.” A discounted cash flow says the value of any asset is simply the present value of the cash it will produce. Every other model in this course — Graham's, Buffett's, Greenwald's — is a shortcut to approximating that one idea without doing the full forecast.
Damodaran's real DCF is multi-stage: high growth for a while, fading to a stable terminal rate. The app uses the simplest honest version — a single-stage Gordon Growth model — because it exposes the machinery clearly and its two big assumptions have nowhere to hide.
02The formula
Two of the three inputs — g and r — are judgments about an unknowable future, and they sit in a subtractionin the denominator. That's the whole story, good and bad: small changes in a small number swing the answer enormously.
03A base case, then the truth about it
Take Linamar's free cash flow — about $13.30 per share — and run a reasonable base case: 3% perpetual growth, a 9% required return.
Against a recent price of $109, a $229 value screams “buy.” But before you trust that number, change the two assumptions by amounts you can't rule out — a point of growth, a point of discount rate — and watch what happens:
| r ＼ g | 2% | 3% | 4% |
|---|---|---|---|
| 8% | $227 | $275 | $347 |
| 9% | $194 | $229 | $277 |
| 10% | $170 | $196 | $231 |
The “value” ranges from $170 to $347 across assumptions no one could call unreasonable — a 2× spreadfrom nudging two numbers by a percentage point each. This is the DCF's dirty secret: it feels precise and isn't.
Garbage in, gospel out. A DCF turns two guesses into a number carried to the dollar — and the false precision is more dangerous than honest doubt.
So what's it good for? Notice that every cell in the grid sits far above the $109 price.The DCF can't tell you Linamar is worth exactly $229 — but across a whole range of reasonable assumptions, it keeps saying “worth more than the market is charging.” That robust direction is the honest signal; the single point estimate is not.
04When the DCF lies
Four cautions
- It's hypersensitive to r and g. As the grid shows, two small judgments dominate the answer. Always run a range — a single DCF number is an opinion in a lab coat.
- It breaks when r and g get close. As g approaches r, the denominator shrinks toward zero and the value shoots to infinity. The app refuses to compute a DCF when the spread is under one percentage point — the math there is meaningless.
- Perpetual constant growth is a fiction.No company grows at one steady rate forever; Damodaran's real model fades growth over stages. Treat the single-stage output as a sketch, not a portrait.
- Free cash flow doesn't fit financials.For banks and insurers, cash flow is driven by deposits and lending, not the FCF this formula expects — so the app doesn't apply it there.
There's a reason the previous module on the reverse DCF exists: rather than guess the growth and trust the output, you can flip the model, take the market price as given, and solve for the growth it implies — then judge whether that is believable. Same machine, run backwards, with far less room to fool yourself. The app shows both, side by side, for exactly that reason.
See the DCF — and its reverse — on any stock
The research page computes the single-stage DCF from current cash flow and shows it beside the market-implied growth rate (the reverse DCF), so you get both the forward estimate and the reality check in one view.