Plank’s Plants had net income of $10,000 on sales of $40,000 last year. The firm
ID: 2772875 • Letter: P
Question
Plank’s Plants had net income of $10,000 on sales of $40,000 last year. The firm paid a dividend of $2,300. Total assets were $700,000, of which $350,000 was financed by debt.
What is the firm’s sustainable growth rate? (Do not round intermediate calculations. Enter your answer as a percent rounded to 1 decimal place.)
If the firm grows at its sustainable growth rate, how much debt will be issued next year? (Do not round intermediate calculations.)
What would be the maximum possible growth rate if the firm did not issue any debt next year? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places.)
What is the firm’s sustainable growth rate? (Do not round intermediate calculations. Enter your answer as a percent rounded to 1 decimal place.)
Explanation / Answer
Net Income= e= 10,000, Sales=S=40,000, dividend =d=2,300, debt=D=350,000, Total Assets= A=700,000 ,Equity=E=Total Assets-debt=A-D=700,000 - 350,000= 350,000
a) Payout Ratio of Firm= payout= dividend /Net Income =d/e= 2,300/10,000=.23
Retention ratio of firm=rr= 1-payout=1-.23=.77
Return on Equity of firm= ROE= e/E=10,000/350,000= 0.02857=2.857%
sustainable growth rate=g=rr*ROE=.77*.02857=0.02199 or 2.2%
b) Sustainable growth rate gives the maximum growth rate at which a firm can grow without issuing more debt therefore if firm grows at sustainable growth rate, 0$ debt will be required to be issued next year.
c) Sustainable growth rate gives the maximum growth rate at which a firm can grow without issuing more debt or debt of 0$, thus maximum possible growth rate if the firm did not issue any debt next year is Sustainable growth rate itself of 2.20%.