Tuesday, June 18, 2019

Gordon Growth Model and viability of Apple and Microsoft Stock Prices

This post applied the Gordon Growth to Microsoft and Apple Stock in 2014.   Would love if one of my readers updated this piece.

Question:   The Gordon Growth Model asserts that the value of a stock can be modeled as

P = D/(k-g)

Where D is the expected price on a stock.  

D is next year’s expected annual dividend per share

k is the investor’s discount rate

g is the expected growth in dividends.


Use the Gordon Growth Model to compare the viability of the current stock prices for Apple and Microsoft.

Here is a discussion of the Gordon Growth Model:


Here is my assessment of Microsoft and Apple.  (I am using current market prices for P and current dividends for expected next year’s dividends and a 0.12 discount rate for investors in both companies.

Input for Gordon Dividend Growth Model Calculation
Apple
Microsoft
Price of Shares
$97
$43
Expected Dividends Per Share
$1.88
$1.24
Discount Rate
0.12
0.12



Given these admittedly arbitrary assumptions, what is the value of g (the expected growth in dividends) that is consistent with current market prices for the two stocks?


Answer:

Rearrange the Gordon Growth Model equation to solve for g.

g= (Pk-D)/P


Below is the calculation for g and the check for the calculation.


Calculation for g and check of calculation
Apple
Microsoft
P
Price of Shares
$97
$43
D
Expected Dividends Per Share
$1.88
$1.24
k
Discount Rate
0.12
0.12
(Pk-D)/P
g
0.101
0.091
D/(k-g)
Check
$97
$43


Observations:

Based on the Gordon growth model and my assumptions I calculate the dividend growth rate consistent with current stock price.

The model finds g=0.101 for Apple and g=0.091 for Microsoft.

What projection of future dividend growth is more realistic?

The answer I believe is that at this point in time Apple is much better positioned than Microsoft.      

Why: 

The current dividend yields for Microsoft and Apple are 2.9% and 1.9& respectively.  Based on these yields Apple has more upside on dividends.

Microsoft is already paying more of its income on dividends than Apple – payout ratios are 41% for Microsoft and 29% for Apple.


Why I could be wrong on this:  

Microsoft has more cash per share than apple $10.31 for Microsoft and $6.33 for Apple.



Financial Statistics are from Yahoo:  




Other interesting posts on Apple and Microsoft:


Yesterday I looked at wealth accumulated by an investor who bought 100 shares in the Microsoft and Apple IPO.







Interestingly, the Microsoft beat the Apple IP by a lot.  The Windows franchise was incredibly dominant for a long time and the finance people at Microsoft were very good at making sure previous investors were not diluted down. 


However, Apple got hot with new products – ipod, ipad, iphone, and now even icash.  The struggle continues.











 



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