Question

You are given the following information on Kaleb's Kickboxing:

Profit margin 7%  

Capital intensity ratio 0.7

Debt–equity ratio    0.8  

Net income $80061   

Dividends $16694

Calculate the sustainable growth rate (in %) (round 4 decimal places)

Answer 1

We first must calculate the ROE to calculate the sustainable growth rate. To do this we must realize two other relationships. The total asset turnover is the inverse of the capital intensity ratio, and the equity multiplier is 1 + D/E. Using these relationships, we get:

ROE = (PM)(TAT)(EM)

ROE = (0.07)(1/0.7)(1 + 0.80)

ROE = 0.18 or 18%

The plowback ratio is one minus the dividend payout ratio, so:

b = 1 – ($16,694 / $80,061)

b = 0.7915

Now we can use the sustainable growth rate equation to get:

Sustainable growth rate = (ROE × b) / [1 – (ROE × b)]

Sustainable growth rate = [0.18(0.7915)] / [1 – 0.18(0.7915)]

Sustainable growth rate = 0.1661 or 16.61%