CFA Level I · CFA Level I Exam · Discounted Cash Flow (DCF) and Growth Models
An analyst values a company using a free cash flow to the firm (FCFF) model. The present value of the FCFF is discounted at the rate that most appropriately reflects the required return of:
FCFF is discounted at the weighted average cost of capital because it is the cash flow available to all capital providers, both debt holders and shareholders. The result is firm value, and market value of debt is then subtracted to obtain equity value.
- Acommon shareholders only
- Ball capital providers, using the weighted average cost of capitalCorrect
- Cdebt holders only, using the after-tax cost of debt
Explanation
FCFF is the cash flow available to all capital providers, so it is discounted at the WACC. The result is firm value, from which debt is subtracted to get equity value. Discounting at the cost of equity would apply to FCFE.
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