Walter’s model, Gordon Model

Walter’s Model and the Gordon Model are two dividend valuation models used to determine the value of a company’s stock based on its dividend policy.

Walter’s Model: Walter’s Model, proposed by James E. Walter, suggests that the value of a company’s stock is directly related to its internal rate of return (IRR) and the cost of capital. According to this model, the dividend policy of a company affects its retention ratio (proportion of earnings retained in the business) and, consequently, its growth rate. The key assumptions of Walter’s Model are that the company has a stable return on investment and a fixed dividend payout ratio.

The formula for calculating the value per share using Walter’s Model is as follows:

P = D / (k – g)

Where: P = Value per share D = Dividend per share k = Required rate of return (cost of equity) g = Growth rate of dividends

Gordon Model: The Gordon Model, proposed by Myron J. Gordon, is an extension of the dividend discount model (DDM) and is also known as the Gordon Growth Model. It assumes that the value of a company’s stock is based on the present value of future dividends. The key assumption of the Gordon Model is that dividends grow at a constant rate indefinitely.

The formula for calculating the value per share using the Gordon Model is as follows:

P = D0 * (1 + g) / (k – g)

Where: P = Value per share D0 = Dividend per share in the current period k = Required rate of return (cost of equity) g = Growth rate of dividends

The Gordon Model takes into account the current dividend and the expected growth rate of dividends to estimate the intrinsic value of a stock.

Both Walter’s Model and the Gordon Model are based on the premise that dividends play a crucial role in determining the value of a company’s stock. However, it’s important to note that these models have their limitations and should be used in conjunction with other valuation techniques and considerations.