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Gordon Growth Model (GGM) Calculator

A dividend discount model that values a stock based on the present value of its future dividends, assuming a constant growth rate in perpetuity.

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Expected Dividend Per Share Next Year

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Overview

Developed by Myron J. Gordon and Eli Shapiro in the 1950s, the Gordon Growth Model (GGM) is a fundamental stock valuation method that calculates a stock's intrinsic value by discounting its expected future dividends. It assumes that dividends will grow at a constant rate indefinitely and that the required rate of return is greater than the dividend growth rate.

Symbols

Variables

P = Current Stock Price / Intrinsic Value, D_1 = Expected Dividend Per Share Next Year, r = Required Rate of Return / Cost of Equity, g = Constant Dividend Growth Rate

Current Stock Price / Intrinsic Value
Expected Dividend Per Share Next Year
Required Rate of Return / Cost of Equity
Constant Dividend Growth Rate

Apply it well

When To Use

When to use: The GGM is best applied to mature, stable, dividend-paying companies with predictable and constant dividend growth, such as utilities or consumer staples. It is also frequently used to calculate the terminal value in multi-stage discounted cash flow (DCF) models.

Why it matters: This model is crucial for investors to estimate the intrinsic value of a stock, helping them determine if a stock is undervalued or overvalued relative to its market price. It provides a foundational understanding of how future dividends contribute to a stock's current valuation and serves as a benchmark for investment decisions.

Avoid these traps

Common Mistakes

  • Assuming a truly constant dividend growth rate in perpetuity, which is unrealistic for most companies over very long periods.
  • Applying the model to companies that do not pay dividends or have erratic dividend growth patterns.
  • Using a dividend growth rate (g) that is equal to or greater than the required rate of return (r), which leads to a negative or infinite stock price, rendering the model invalid.
  • Confusing the current dividend (D0) with the next period's expected dividend (D1) in the numerator of the formula.
  • Over-relying on the model's output without considering its inherent assumptions and limitations, particularly its sensitivity to input variables.

One free problem

Practice Problem

A company is expected to pay a dividend of $1.50 next year (D1). The required rate of return for the stock is 12%, and dividends are expected to grow at a constant rate of 5% indefinitely. What is the intrinsic value of the stock according to the Gordon Growth Model?

Expected Dividend Per Share Next Year1.5 unitless
Required Rate of Return / Cost of Equity0.12 kJ/mol
Constant Dividend Growth Rate0.05 s^-1

Solve for: P

Hint: Apply the formula P = D1 / (r - g) directly.

The full worked solution stays in the interactive walkthrough.

References

Sources

  1. Gordon, M.J., & Shapiro, E. (1956). Capital Equipment Analysis: The Required Rate of Profit. Management Science, 3(1), 102-110.
  2. Ross, S., Westerfield, R., & Jordan, B. (2010). Essentials of Corporate Finance (7th ed.). New York, NY: McGraw-Hill, Irwin.
  3. Brealey, R., Myers, S., & Allen, F. (2010). Principles of Corporate Finance. Maidenhead, Berkshire: McGraw-Hill.
  4. Brealey, R. A., Myers, S. C., & Allen, F. (2020). Principles of Corporate Finance (13th ed.). McGraw-Hill Education.
  5. Damodaran, A. (2012). Investment Valuation: Tools and Techniques for Determining the Value of Any Asset (3rd ed.). John Wiley & Sons.
  6. Brealey, R. A., Myers, S. C., & Allen, F. (2020). Principles of Corporate Finance. McGraw-Hill Education.