Gordon Growth Model

The Gordon Growth Model was first published by Myron J Gordon in 1959. It is a model for determining the intrinsic value of a stock and is based off of future dividends that grow at a relatively consistent rate.

The formula looks like this.

Stock Value = D/K-G

Where

K = The expected dividends per share 1 year from now

D = The Required Rate of Return for Equity Investors

G = The Growth rate in dividends

The Formula has gained wide acceptance in the financial community as being one of the best ways to determine the price of a stock. Using the ratio an investor can find stocks that meet their desired rate of return and invest into them.

The Gordon growth rate works best for established companies as indexes because it is seeking to profit from the dividends of the stock. If you try to use it on more volatile equities it can turn against you as the price of the stock may fall during a bears market.

Advantages and Disadvantages of the Gordon Growth Model

The advantage of using this is that you get a good idea of how the dividends will grow in a given stock. Therefore it may help you more than the dividend yield ratio.

The disadvantage here is that the stock may go down and by doing so make this formula worthless. This ratio requires you to estimate the growth in dividends, but it may not actually grow. That is why it is recommended to be careful when using this indicator.

Other Ratios

You can learn more about the fundamentals of companies by looking at different financial ratios. Here is a short list of ratios that investors may use.

Levered Free Cash Flow – this shows the cash flow a company has after expenses

PEG ratio - An alternative to the PE ratio

Cash Current Debt Coverage – This looks at a company’s current debt