In a DCF analysis, why might an analyst include a scenario analysis?

Including a scenario analysis in a discounted cash flow (DCF) analysis allows an analyst to evaluate how different assumptions impact overall valuation outcomes. This approach is particularly valuable because it recognizes that the future is uncertain, and various factors can influence a company's financial performance. By modeling multiple scenarios—such as optimistic, pessimistic, and base cases—the analyst can better understand the range of potential outcomes and the associated risks.

This analysis helps in identifying key drivers of value and understanding the sensitivity of the valuation to changes in underlying assumptions, such as revenue growth rates, discount rates, and cost structures. By doing so, analysts can provide a more nuanced view of the investment opportunity, aiding stakeholders in making informed decisions based on different potential futures. Ultimately, scenario analysis enriches the DCF by incorporating variability and uncertainty into the projection of cash flows.