TVM: What Discount Rate Should You Use in a DCF? Introducing WACC

We have our cash flow forecast. Now we need to determine the rate we'll use to discount those future cash flows back to today — and in a business acquisition context, that rate is the weighted average cost of capital. In this episode, we introduce the concept of WACC, explain what it represents, and set up the two-episode deep dive into its components. We cover: -Why the discount rate in a DCF isn't arbitrary — it must reflect the risk borne by all providers of capital -What WACC is: the weighted average of the cost of debt and the cost of equity, based on the target capital structure -Why we use market value weights — not book values — when determining the capital structure -An important distinction: the capital structure used in the WACC calculation vs. how we actually finance the acquisition -Why even small changes in the discount rate can have a dramatic impact on the resulting enterprise value By the end of this video, you'll understand: -What WACC represents and why it's the right discount rate for valuing operating cash flows -Why the planned long-term capital structure of the target company — not the financing mix used at closing — is what drives the rate -How the cost of debt and cost of equity each contribute to the overall discount rate In the next episode, we'll work through the cost of debt — what it is, how it's estimated, and the tax adjustment that makes it different from the stated interest rate. 👉 Visit us at intellicasts.com to explore more resources and courses.