Discounted cash flow (DCF)

DCF starts from a forecast, not from what the business already earns. An analyst projects revenue, costs, and free cash flow for several years ahead, then applies a discount rate to shrink each future dollar down to what it’s worth today. The discount rate is meant to capture both the return an investor could get elsewhere and the risk that the forecast doesn’t pan out.

Why it’s rarely used for small business sales

DCF depends heavily on assumptions — growth rate, margins, the discount rate itself — and small changes in those assumptions can swing the resulting value a great deal. For an established small or medium business with a steady track record, buyers usually find a multiple of historical earnings more reliable and far easier to check than a multi-year forecast.

Where it does get used

DCF shows up more often for businesses with long-term contracts, predictable recurring revenue, or major near-term investments that will change future earnings — situations where last year’s numbers alone don’t tell the real story. Even then, it’s typically shown alongside a multiple-based estimate rather than replacing it.