Question

Your firm has an ROE of 11.1%​, a payout ratio of 20%​, $598,200of​ stockholders' equity, and $375,000 of debt. If you grow at your sustainable growth rate this​ year, how much additional debt will you need to​ issue?

The Tax Cuts and Jobs Act of 2017 temporarily allows​ 100% bonus depreciation​ (effectively expensing capital​ expenditures). However, we will still include depreciation forecasting in this chapter and in these problems in anticipation of the return of standard depreciation practices during your career.

Answer 1

Solution :- Sustainable Growth rate (SGR) = ROE * (1 - Payout ratio).

= 11.1 % * (1 - 0.20)

= 11.1 % * 0.80

= 8.88 %

Debt ratio = Debt / (Debt + equity).

= 375000 / (375000 + 598200)

= 375000 / 973200

= 0.38532675709

Increase in total assets = SGR * (Equity + Debt).

= 8.88 % * (598200 + 375000)

= 8.88 % * 973200

= $ 86420.16

Additional debt required in the given question = Debt ratio * Increase in total assets

= 0.38532675709 * 86420.16

= $ 33,300 (approx).

Conclusion :- Amount of additional debt required = $ 33,300 (approx).