Investors often struggle to evaluate whether a bank or financial stock is cheap, fairly valued, or expensive. Traditional valuation metrics like P/E ratios can be misleading in financials, where Return on Equity (ROE) and Book Value (BVPS) growth drive long-term value. This is where the Gordon Growth Model (GGM) provides an elegant framework.
In this article, we’ll:
Break down how GGM works for banks.
Use Shriram Finance (FY22–FY25) as a real-world case study.
Apply the model to project potential IndusInd Bank valuations by FY27 under different ROE scenarios.
🔹 The Gordon Growth Model Refresher
The GGM is derived from the Dividend Discount Model but adapted for banks, where P/BV multiples are closely linked to profitability.
The formula for justified P/B multiple is:
Where:
ROE = Return on Equity
g = Sustainable growth = ROE × Retention ratio
r = Cost of Equity (typically 12% in India)
👉 The intuition: Banks that deliver higher ROE relative to their cost of equity deserve higher P/B multiples.
🔹 Shriram Finance: A Case Study of Rerating
Between FY22 and FY25, Shriram Finance experienced a classic GGM rerating cycle:
| Year | ROE (%) | Retention | g (%) | P/B (approx.) | Notes |
|---|---|---|---|---|---|
| FY22 | ~11.3 | ~75–80% | ~8–9 | ~1.1× | Low growth, market pessimism |
| FY23 | ~17.3 | ~75–80% | ~13 | ~1.1× | ROE improved but P/B lagged |
| FY24 | ~15.6 | ~75–80% | ~12 | ~1.8× | Market began rerating |
| FY25 | ~17.9 | ~75–80% | ~14–15 | ~2.1× | Full rerating priced in |
What happened?
ROE jumped from ~11% → ~18%.
Sustainable growth (g) rose alongside.
The market rerated Shriram Finance from ~1.1× P/B to ~2.1× P/B.
Stock price delivered strong gains as both BVPS compounded (~15% CAGR) and P/B multiple expanded.
✅ This validates the GGM principle: as profitability rises, so does justified valuation.
🔹 IndusInd Bank: What Could Happen by FY27?
Now let’s project IndusInd Bank’s potential rerating using GGM.
Assumptions
Book Value per Share (BVPS) FY27E: ~₹950
Retention ratio: 80–85% (historically pays ~15% dividend)
Cost of Equity (r): ~12%
Scenario Analysis: ROE vs. P/B Multiples
| ROE (%) | Growth g (%) | Justified P/B | Target Price (FY27, BV = ₹950) |
| 10% | ~8% | ~0.8× | ~₹760 |
| 11% | ~9% | ~0.9× | ~₹855 |
| 12% | ~10% | ~1.0× | ~₹950 |
| 13% | ~11% | ~1.2× | ~₹1,140 |
| 14% | ~12% | ~1.3× | ~₹1,235 |
| 15% | ~13% | ~1.5× | ~₹1,425 |
| 16% | ~14% | ~1.7× | ~₹1,615 |
👉 This range suggests that if IndusInd merely sustains 12% ROE, fair value could be ~₹950 by FY27. But if it re-rates like Shriram Finance did, reaching 15–16% ROE, it could justify ₹1,400–1,600 levels.
🔹 Takeaways for Investors
ROE drives P/B multiples: As seen in Shriram Finance, rising ROE can double a stock’s P/B.
Retention matters: High retention fuels BVPS growth, compounding stock value even if multiples don’t rerate.
Market rerating is nonlinear: Multiples often stay depressed until conviction builds — then rerating can be swift.
IndusInd’s setup is similar: If management executes and ROE climbs to mid-teens, GGM suggests significant upside.
📝 Final Word
The Gordon Growth Model isn’t a crystal ball, but it offers a structured way to link profitability (ROE), growth (BVPS expansion), and valuation (P/B). Shriram Finance’s journey shows how rerating can transform returns. IndusInd Bank could follow a similar path if profitability improves.
For long-term investors, tracking ROE trajectory and retention ratios may provide early signals of rerating opportunities.
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