Question

Maggie’s Muffins Bakery generated $5,000,000 in sales during 2016, and its year-end total assets were $2,500,000. Also, at year-end 2016, current liabilities were $1,000,000, consisting of $300,000 of notes payable, $500,000 of accounts payable, and $200,000 of accruals. Looking ahead to 2017, the company estimates that its assets must increase at the same rate as sales, its spontaneous liabilities will increase at the same rate as sales, its profit margin will be 7%, and its payout ratio will be 80%. How large a sales increase can the company achieve without having to raise funds externally—that is, what is its selfsupporting growth rate?

Answer 1

Self-supporting growth rate = M (1-POR) (S0) / A0 – L0 – M (1-POR) (S0)

Where:

M = Net Income/Sales = 7%

POR = Payout ratio = 80%

S0 = Sales = $5,000,000

A0 = $2,500,000

L0 = Spontaneous liabilities = $500,000 + $200,000 = $700,000[only the accounts payable and accruals are considered spontaneous liabilities]

Substituting in the above equation, we get:

= 0.07 (1 - 0.80) (5,000,000) / 2,500,000-700,000 - 0.07(1 - 0.80)(5,000,000)

= 70,000 / 2,500,000 – 700,000 – 70,000

= 70,000 / 1,730,000

= 4.04624%

Therefore, the self-sustaining growth rate is 4.04624%

Calculation of “how large a sales can increase” amount:

= Sales amount * Self-sustaining growth rate

= $5,000,000 * 4.04624%

= $202,312

Therefore, sales can increase by $202,312.