Dividend Growth Model Calculator
Stock price based on growing dividends.
Formula first
Overview
The Dividend Growth Model, also known as the Gordon Growth Model, determines the intrinsic value of a stock by summing its future dividend payments discounted to their present value. It assumes dividends grow at a constant rate indefinitely, providing a simplified valuation tool for stable, dividend-paying companies.
Symbols
Variables
P_0 = Stock Price, D_1 = Next Dividend, r = Req. Return, g = Growth Rate
Apply it well
When To Use
When to use: This model is ideal for valuing mature companies with stable, predictable dividend payout histories and constant growth rates. It is most effective when the firm's required rate of return is higher than the dividend growth rate, ensuring a finite valuation.
Why it matters: It enables investors to estimate whether a stock is fairly priced, overvalued, or undervalued relative to its expected cash flows. Additionally, by rearranging the formula, analysts can determine the implied cost of equity capital for a corporation.
Avoid these traps
Common Mistakes
- Using D0 instead of D1.
- Using if g > r (model breaks).
One free problem
Practice Problem
A utility company is expected to pay a dividend of $2.50 per share next year. If the required rate of return for equity investors is 8% and the dividends are projected to grow at a constant rate of 3% per year, what is the intrinsic value of the stock?
Solve for:
Hint: Subtract the growth rate from the required return and divide the dividend by that result.
The full worked solution stays in the interactive walkthrough.
References
Sources
- Brealey, Myers, and Allen, Principles of Corporate Finance
- Ross, Westerfield, and Jaffe, Corporate Finance
- Wikipedia: Gordon Growth Model
- CFA Institute, CFA Program Curriculum, Level I
- Brealey, Myers, Allen Principles of Corporate Finance
- Ross, Westerfield, Jaffe Corporate Finance
- Berk, DeMarzo Corporate Finance
- Damodaran Investment Valuation