Final answer:
The dividend discount model can be used even if the firm's payout ratio is less than 65%. Suitability depends more on the stability and predictability of dividends than just the payout ratio.
Step-by-step explanation:
The statement that it is appropriate to use the dividend discount model if firms have a consistent history of paying dividends and their payout ratio is at least 65% of earnings is false. The dividend discount model is indeed used to value a stock based on its dividend payments, but the model can be appropriate even if a company's payout ratio is less than 65% of earnings. This model is especially suited for those companies that have a stable and predictable dividend distribution policy. Whether a firm pays out 65%, less, or more of its earnings as dividends does not solely determine the suitability of the dividend discount model.
When using the dividend discount model, an investor assesses the company's future dividend payments and discounts them back to their present value. The challenge is to apply the correct discount rate and to account for both potential capital gains and dividends. Since future profits and dividends are uncertain, as are the discount rates and capital gains, investors have different perspectives on the value of the stock, reflecting in their willingness to buy or sell it.