CFA Level I · CFA Level I Exam · Discounted Cash Flow (DCF) and Growth Models
An analyst values a company using a single-stage FCFF model. Which discount rate is most appropriate for the forecast FCFF?
The weighted average cost of capital is the appropriate rate, because FCFF belongs to all capital providers, both debt and equity holders. The cost of equity is used for FCFE, which belongs only to shareholders.
- AThe weighted average cost of capitalCorrect
- BThe cost of equity
- CThe after-tax cost of debt
Explanation
FCFF is the cash flow available to all capital providers, both debt and equity holders. It must therefore be discounted at the WACC. The cost of equity is used for FCFE, so discounting FCFF at it would mismatch cash flows and required return.
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