Would the Gordon Growth Model still be valid if using a -g? Conceptually it seems like it should, as a negative g would increase the denominator and would have the same effect as raising r, which would result in a lower value. However, just because I think it should be valid doesn’t mean it would.
I’m imagining an investment in real estate where the price of the real estate is expected to go down over the long term. Could I use a -3% value for g in the cap rate and get a valid prediction?
You can still use GGM with negative growth. Your intuition is correct that the denominator would increase, leading to a smaller price today for the asset. Technically, as long as your denominator is strictly positive, you can use the model and get a “valid” estimate.
Also, not entirely sure what you mean by your last question…“use a -3% g in the cap rate to get a valid prediction…”–the cap rate is the discount rate minus the growth rate, so it (negative growth) would already be incorporated into the cap rate if you calculate the cap rate from NOI1 divided by today’s price. If you’re taking the discount rate and subtracting -0.03 to arrive at the cap rate, that would still be okay.
Yes, you can. It will calculate the DCF/DD as it approaches zero, or simply the zero growth version of a simillar company but with a discount rate adjusted for the negative growth.
Remember that you’re predicting that the company will not liquidate, but will keep generating less cash until it doesn’t anymore, so that might underestimate your value.