# What is the Gordon Growth Model?

Definition: The Gordon Growth Model (GGM) is a valuation model that values a stock by discounting the dividends that are distributed to a firm’s shareholders.

## What Does Gordon Growth Model Mean?

What is the definition of Gordon Growth Model? Also known as Gordon Dividend Model, the Gordon Growth Model assumes that a firm is expected to achieve a steady growth, will maintain a stable financial leverage, and will pay out its free cash flows to its shareholders in the form of dividends. This model assumes that the dividend per share grows at a constant rate in perpetuity and therefore, the present value of a firm is calculated based on this assumption.

To calculate the fair value of a stock using the GGM formula, we need to know:

• D1 = the expected future value of dividends
• K = cost of equity, which the required rate of return by investors
• g = the stable dividend growth rate, in perpetuity

The formula to calculate the fair value of a stock is P = D1 / ( k – g ).

Let’s look at an example.

## Example

A technology company has declared a quarterly dividend of \$0.85 per share, reaching an annualized dividend of \$3.40 for the coming fiscal year. Analyst consensus estimates that the firm will increase its annualized dividend at a constant rate of 4% annually thereafter. The cost of equity for this blue chip technology firm is 12%, and its stock currently trades at \$65. Can we use the GGM to calculate the stock’s fair price?