Dividend Discount & Growth Models — Q&A

The Board of Directors (BOD) decides. Companies are not required to pay dividends — smaller growth companies typically avoid them; larger established companies often pay.

$3,160 (($0.68 + $0.68 + $0.90 + $0.90) × 1,000). Dividends provide return without selling shares — useful for income investors like retirees.

Common stock dividends tend to grow (e.g., Coca-Cola increases annually). Preferred dividends are typically fixed and do not grow.

Stock value = Annual dividend ÷ Discount rate. Discount rate = average market return (may be called required rate of return). Typically used for preferred stock (fixed dividends). Factors in time value of money.

Annual dividend = $5. Model value = $5/0.04 = $125. Trading at $120 → undervalued by $5 (below present value).

Stock value = Annual dividend ÷ (Discount rate − dividend growth rate). Used for common stock with growing dividends — not preferred (fixed dividends). Example: $7 dividend, 6% discount, 2% growth → $7/0.04 = $175.

Overvalued — market price above model estimate. Below $175 would be undervalued.

Williams — dividend discount model (The Theory of Investment Value: stock value = discounted future dividends). Gordon — dividend growth model (adjusts DDM for growing common-stock dividends).