Dividend and Dividend growth model: Difference between pages
imported>Doug Williamson (Add link to Preference dividends page.) |
imported>Doug Williamson (Layout.) |
||
Line 1: | Line 1: | ||
(DGM). | |||
The Dividend growth model links the value of a firm’s equity and its market cost of equity by modelling the expected future dividends receivable by the shareholders as a constantly growing perpetuity. | |||
Its most common uses are: | |||
(1) Estimating the market <u>cost of equity</u> from the current share price; and | |||
(2) Estimating the fair <u>value</u> of equity from a given or assumed cost of equity. | |||
Expressed as a formula: | |||
Ke = D<sub>1</sub> / P<sub>0</sub> + g | |||
''OR (rearranging the formula)'' | |||
== | P<sub>0</sub> = D<sub>1</sub> / ( Ke - g ) | ||
Where: | |||
P<sub>0</sub> = ex-dividend equity value today. | |||
D<sub>1</sub> = expected dividend at Time 1 period hence. | |||
Ke = cost of equity per period. | |||
g = constant periodic rate of growth in dividend from Time 1 to infinity. | |||
This is an application of the general formula for calculating the present value of a growing perpetuity. | |||
* [[ | |||
* [[ | |||
* [[ | '''Example 1''' | ||
* [[ | |||
Calculating the market <u>value</u> of equity. | |||
Where: | |||
D<sub>1</sub> = expected dividend at Time 1 period hence = $10m. | |||
Ke = cost of equity per period = 10%. | |||
g = constant periodic rate of growth in dividend from Time 1 to infinity = 2%. | |||
P<sub>0</sub> = D<sub>1</sub> / ( Ke - g ) | |||
= 10 / ( 0.10 - 0.02 ) | |||
= 10 / 0.08 | |||
= $125m. | |||
'''Example 2''' | |||
Or alternatively calculating the current market <u>cost of equity</u> using the rearranged formula: | |||
Ke = D<sub>1</sub> / P<sub>0</sub> + g | |||
Where: | |||
D<sub>1</sub> = expected dividend at Time 1 period hence = $10m. | |||
P<sub>0</sub> = current market value of equity per period = $125m. | |||
g = constant periodic rate of growth in dividend from Time 1 to infinity = 2%. | |||
Ke = 10 / 125 + 2% | |||
= 10%. | |||
Also known as the Dividend discount model, the Dividend valuation model or the Gordon growth model. | |||
== See also == | |||
* [[CertFMM]] | |||
* [[Cost of equity]] | |||
* [[Corporate finance]] | |||
* [[Perpetuity]] | |||
[[Category:Corporate_finance]] | [[Category:Corporate_finance]] |
Revision as of 20:40, 8 April 2015
(DGM).
The Dividend growth model links the value of a firm’s equity and its market cost of equity by modelling the expected future dividends receivable by the shareholders as a constantly growing perpetuity.
Its most common uses are:
(1) Estimating the market cost of equity from the current share price; and
(2) Estimating the fair value of equity from a given or assumed cost of equity.
Expressed as a formula:
Ke = D1 / P0 + g
OR (rearranging the formula)
P0 = D1 / ( Ke - g )
Where:
P0 = ex-dividend equity value today.
D1 = expected dividend at Time 1 period hence.
Ke = cost of equity per period.
g = constant periodic rate of growth in dividend from Time 1 to infinity.
This is an application of the general formula for calculating the present value of a growing perpetuity.
Example 1
Calculating the market value of equity.
Where:
D1 = expected dividend at Time 1 period hence = $10m.
Ke = cost of equity per period = 10%.
g = constant periodic rate of growth in dividend from Time 1 to infinity = 2%.
P0 = D1 / ( Ke - g )
= 10 / ( 0.10 - 0.02 )
= 10 / 0.08
= $125m.
Example 2
Or alternatively calculating the current market cost of equity using the rearranged formula:
Ke = D1 / P0 + g
Where:
D1 = expected dividend at Time 1 period hence = $10m.
P0 = current market value of equity per period = $125m.
g = constant periodic rate of growth in dividend from Time 1 to infinity = 2%.
Ke = 10 / 125 + 2%
= 10%.
Also known as the Dividend discount model, the Dividend valuation model or the Gordon growth model.