Question #122
Reading: Reading 20 Discounted Dividend Valuation
PDF File: Reading 20 Discounted Dividend Valuation.pdf
Page: 48
Status: Unattempted
Correct Answer: B
Question
Which of the following would be least appropriate to value using the Gordon growth model?
Answer Choices:
A. Water utility companies
B. Profitable rapidly-growing companies
Explanation
A discounted dividend approach is suitable for valuing a dividend-paying stock where
there is a clear and direct relationship between the company's dividends and its
profitability. Analysts also sometimes use the Gordon growth model to value broad
developed-market equity indexes. The Gordon growth model is generally inappropriate for
valuing a profitable rapidly-growing firm, which is likely to not pay a dividend, or which
may possess supernormal growth that cannot be expected to continue. A firm that does
not pay a dividend is likely to be valued based on free cash flow.