Question

You’ve collected the following information about Odyssey, Inc.:

Sales		$	200274
Net income		$	10254
Dividends		$	3231
Total debt		$	72046
Total equity		$	62690

If the company grows at the sustainable growth rate, how much new borrowing will take place in the coming year, assuming a constant debt–equity ratio?

(Omit the "$" sign and commas in your response. Enter your answer rounded to 2 decimal places. For example, $1,200.456 should be entered as 1200.46.)

Answer 1

Step - 1 ........ Calculation of sustainable growth rate

ROE = Return on Equity = Net Income / Equity * 100 = 10254 / 62690 * 100 = 16.3567 %

b = Retention ratio = 1 - ( dividend / Net income) = 1 - ( 3231 / 10254) = 0.6849

Now .......... Sustainable growth rate = ROE * b / [ 1 - ROE * b ]

= 0.163567 * 0.6849 / [ 1 - 0.163567 * 0.6849 ]

= 0.1120270383 /  0.8879729617

= 0.126160

or ........... 12.6160 %

Step - 2 .......... Determining the borrowing needs.

Total assets ( Current ) = Equity + Debt = 62690 + 72046 =  134736

Total assets ( coming year ) = Current total assets * ( 1 + sustainable growth rate )

= 134736 * ( 1 + 0.126160 )

= 151,734.35

Target amount of debt in total assets = 151,734.35 * 72046 / 134736 = 81135.36

Current amount of debt = 72046

So, additional borrowing needed = 81,136.36 - 72,046 = 9090.36