DCF DCF Sensitivity Analysis 2

Question 1

A company's DCF valuation drops by 15% when WACC rises from 9% to 10%. What does this tell the analyst?

Accepted Answer

The model is highly sensitive to the discount rate

Answer

A 15% valuation drop from a 1% WACC increase shows the model is highly sensitive to the discount rate, warranting careful WACC estimation.

Question 2

What is a 'scenario analysis' in DCF modeling, and how does it differ from sensitivity analysis?

Accepted Answer

Scenario analysis changes multiple assumptions simultaneously; sensitivity analysis changes one at a time

Answer

Scenario analysis (bull/base/bear) adjusts multiple variables at once to reflect coherent economic conditions, while sensitivity analysis isolates individual inputs.

Question 3

In DCF sensitivity analysis, why is the terminal growth rate particularly important to stress-test?

Accepted Answer

Terminal value often represents 60–80% of total DCF value

Answer

Because terminal value typically dominates total DCF value, small changes in the terminal growth rate can dramatically shift the overall valuation.

Question 4

An analyst runs a sensitivity analysis and finds the DCF value is relatively stable across a wide range of WACC inputs. What might explain this?

Accepted Answer

The terminal value is a small portion of total value due to high near-term cash flows

Answer

When near-term cash flows dominate total value, varying the discount rate has less impact because near-term flows are discounted fewer periods.

Question 5

Which sensitivity analysis approach assigns probabilities to different scenarios to calculate an expected DCF value?

Accepted Answer

Monte Carlo simulation

Answer

Monte Carlo simulation runs thousands of random draws from probability distributions for each input to produce an expected value and confidence intervals.

DCF - Discounted Cash Flow Practice Test

DCF - Discounted Cash Flow Practice Test

DCF DCF Sensitivity Analysis 2