Expected Inflation and the Constant-Growth Valuation Model

In the presence of inflation, the standard Constant-Growth valuation model found throughout the finance literature is not valid in cases where a company either (1) makes no net new investments or (2) invests only in zero Net Present Value projects. If expected inflation is positive, the generally accepted and widely used expression for the value of the firm under either of these two conditions seriously understates the true value of the firm, even with modest levels of inflation. Copyright (c) 2008 Morgan Stanley.