Question

1. A firm’s sustainable growth rate can be calculated using the formula

Sustainable growth rate = (p(S/A)(1 + D/E) x R) / [1 – (p(S/A)(1 + D/E) x R)]

Discuss the relationship between sustainable growth rate and each of the four variables in the above formula. (4 marks)

Answer 1

Answer A firm's Sustainable growth rate can be calculated as = Return on equity x B/(1+Return on Here, R is the retention ratio In the equation given here. Isustainable growth rate= L exi Sla)(I+D 1E) XR)/(1-(P(SIA) (I+DIER) = profit margin X Asset turnover X financial leverage X R/41-(profit marginX Asset turnovenx financial leverage XR)? 1. The main four variables in the sustainable growth rates are profit margin- asset turnoven, financial leverage and retention - ratio. -> These all factors are positively related to - sustainable growth rates. =) Highen the profit margin higher will be the 1. ROE and higher the growth rate. - Similarly, higher the asset turnover ratio and financial leverage higher will be the RoE and it will contribute to high sustainable growth rate. The higher retention rates mean that dividend payment is less and Company is retaining cete profit and investing for future

Higher retention ratio means that high sustainable growth rates is expected. Similarly the inverse of all this would means low sustainable growth rate. - The End - | Scanned with CamScanner