I have prepared for this SA interview extensively and I was just browsing through ibankingfaq.com and it said gordon growth model = FCF/ WACC - G.
My question is doesn't it equal FCF(1+G) (WACC - G)? This is what I have learned in my finance courses and in BIWS modeling course. it also makes sense because the CF need to grow your forecasted growth rate.
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If you are asked about this I will give you my left nut.
I thought it was the dividend one year from now, not FCF
FCF are the CF available to pay share holders, cash to pay down debt, cash to expand etc--->dividends can be used but representing the same things extra cash
I think it depends on the timing. If using FCF from last year of projection period you multiply by (1+G) else not.
No, if you're using FCF from THIS year, you use (FCF * (1 + g)) / r - g. If you use NEXT year's FCF (which is the same as this year's FCF multiplied by 1 + g), you use FCF / r - g.
The gordon growth model can include any type of cash flow in the numerator (dividends, FCFF, FCFE, Residual Income, etc.). It all depends on what you're trying to analyze. Just make sure to keep your cash flow and discount rate consistent.
you are right. that formula gives you the price of smtg at time zero, when the first cf is next year. So FCF0*(1+g) is the correct one.
also on this subject, encountered this the other day, what if the discount rate goes below the growth rate in the terminal value? this would seemingly make you divide by zero, which can't be correct. is your discount rate just wrong, or do you take the absolute value of the denominator?
^This is not an option. You have to use a g WACC. This will almost always be the case since g must be the long-term normalized growth rate ~3-4%
if growth was greater than WACC assuming the firm grows until yr infinity, like the formula implicates, the firm would eventually grow bigger than the economy
If you assume the cash flow happens all at year end, FCF / (R-G) will bring you back to the period before... i.e. beginnig of year. It discounts it by one period.
If you are talking about FCF then you are thinking DCF most likely, in which case you discount the Terminal year FCF by this then discount it by the discount period from the year before the terminal. If you are using mid-point convention need to watch out for discount periods.
This is called the gordon growth model? I thought it was just the standard perpetuity growth model.
this was assuming non-constant growth. so the firm's dividend grew @ like 9% for the first 3 years, then dropped down to 5% in the last year. however, the discount rate used was only 4%. is this just straight incorrect?
Yes, it's straight incorrect.
It was on a final by the way...
You have to use the supernormal growth model and then the gordon growth model after the supernormal growth period has ended.
how'd the interview go ?
great had the first round with an MD Wed. and flew up for the superday today....superday intense had 7 diff interviews much more fit than technical tohugh
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