Gordon Growth Model
P = D1 / (r - g)
Value a stock based on a perpetually growing dividend stream. Also called the Dividend Discount Model for constant growth.
Variables
Intrinsic value per share
Expected dividend next period
Investor's required rate of return
Constant dividend growth rate (must be < r)
Example Calculation
Scenario
A stock just paid $2.00 dividend, dividends grow at 5%, required return is 11%.
Given Data
Calculation
D1 = 2.00 × 1.05 = 2.10. P = 2.10 / (0.11 - 0.05) = 2.10 / 0.06 = 35.00
Result
$35.00
Interpretation
The stock is worth $35 per share if dividends grow at 5% forever.
When to Use This Formula
- ✓Mature, dividend-paying companies
- ✓Quick equity valuation estimate
- ✓Cost of equity estimation (rearranged)
Common Mistakes
- ✗Using D0 instead of D1 in the formula
- ✗Setting g >= r, which makes the formula undefined
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Common questions about this formula
Not directly. Use a free cash flow model or relative valuation instead.
The Gordon Growth Model breaks down when g >= r because the formula produces a negative or infinite value. In practice, no company can sustain a growth rate above the economy's long-run growth rate forever, so g should always be conservative.