causedbyexpectedchangesin interest ratesorrisk across
time.
Variations on the Dividend Discount Model
Sinceprojectionsofdollardividendscannotbemadethrough
infinity,severalversionsofthedividenddiscountmodelhave
beendevelopedbasedondifferentassumptionsaboutfuture
growth.We beginwith thesimplest—a modeldesignedto
valuestockinastable-growthfirmthatpaysoutwhatitcan
affordtoindividends—andthenlookathowthemodelcan
beadapted tovaluecompaniesinhigh growththatmaybe
paying little or no dividends.
The Gordon Growth Model
TheGordongrowthmodelrelatesthevalueofastocktoits
expecteddividendsinthenexttimeperiod,thecostofequity,
and the expected growth rate in dividends.
where
DPS 1 = Expected dividends next year
ke= Required rate of return for equity investors
g= Growth rate in dividends forever
AlthoughtheGordongrowthmodelisasimpleandpowerful
approachtovaluingequity,itsuseislimitedtofirmsthatare
growingatastablerate.Twoinsightsareworthkeepingin