Question

Maggie's Muffins Bakery generated $2 million in sales during 2018, and its year-end total assets were $1 million. Also, at year-end 2018, current liabilities were $1 million, consisting of $300,000 of notes payable, $500,000 of accounts payable, and $200,000 of accruals. Looking ahead to 2019, 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 65%. How large a sales increase can the company achieve without having to raise funds externally—that is, what is its self-supporting growth rate? Do not round intermediate calculations. Round the monetary value to the nearest dollar and percentage value to the nearest whole number.

Answer 1

Step 1: Calculation of self-supporting growth rate

Self-supporting growth rate = [M x (1 - POR) x (S0)] / [A0 - L0 - {M x (1 - POR) x (S0)}]

Where:

M = Net Income/Sales = 7%

POR = Payout ratio = 65%

S0 = Sales = $2,000,000

A0 = $1,000,000

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 x (1 - 0.65) x ($2,000,000)] / [$1,000,000 - $700,000 - {0.07 x (1 - 0.65) x ($2,000,000)]

= $49,000 / $251,000 = 0.1952, or 19.52%

Therefore, the self-sustaining growth rate is 19.52%.

Step 2: Calculation of “how large a sales can increase” amount:

= Sales amount * Self-sustaining growth rate

= $2,000,000 * 19.52% = $390,438.25

Therefore, sales can increase by $390,438