Musings on Markets · 2016-11-04
· 3499d
Time-Varying Discount Rates in DCF Valuation: Why the Cost of Capital Should Change Over Time
This article challenges the common misconception that discount rates must remain constant throughout a DCF valuation. The author argues that discount rates should adjust over time to reflect changing company characteristics such as growth, business mix, and risk profile, demonstrating significant valuation impacts across different company types.
Metrics in this report
Cost of Equity Example - Average Risk US Company
7.6%
calculated
October 2016, with 1.6% risk-free rate and 6% equity risk premium
Equity Value Impact - Growth in Transition
20.91%
increase with time-varying vs constant discount rates
Tesla valuation (July 2016)
Equity Value Impact - Mature Company
8.59%
increase with time-varying vs constant discount rates
Apple valuation (May 2016)
Equity Value Impact - Young Growth Company
38.91%
increase with time-varying vs constant discount rates
Uber valuation (June 2014)
Mature Market Equity Risk Premium
6%
observed
October 2016
Risk-Free Rate
1.6%
observed
US dollar, October 2016