What is a DCF valuation?
A method that forecasts future cash flows and reduces each year by a discount rate reflecting risk. For SMEs, terminal value is usually 60–75% of the answer.
Discounted cash flow forecasts the cash a business will generate, then reduces each future year by a rate reflecting how uncertain that year is. The sum of those reduced figures, plus a terminal value for everything beyond the forecast, is the valuation.
The mechanic in one line
Money you receive in 2031 is worth less than money you receive today. A DCF says exactly how much less, and writes the assumption down.
- 5 years of forecast cash
- €2,500,000
- nominal
- Discounted at 18%
- €1,530,000
- present value
- Difference
- €970,000
- the price of waiting and of risk
The two assumptions that decide the answer
The discount rate. For an owner-managed SME, 18–25% is normal. Three percentage points typically moves the valuation by a fifth, which is why every DCF negotiation ends up here.
Terminal value. Everything beyond the forecast horizon, compressed into one figure. For an SME it is routinely 60–75% of the total — meaning most of a carefully built five-year model is decoration around a single assumption about the years afterwards.
When it is worth building
When cash flows are genuinely forecastable — contracts, subscriptions, long-term agreements — or when the business is about to change shape and history is a poor guide. Below €500,000 of earnings a buyer will use a multiple regardless of what you present.
DCF valuation explained works through both assumptions; how to value a business puts DCF alongside the other two methods.