Question

you are given the following information for Hendrix Guitars, Inc. Profit margin 6.5% total Asset turnover 1.5 Total debt ratio .46 Payout ratio 30% calculate the sustainable growth rate.

Answer 1

Debt ratio = .46

1/.46 = 1/Debt ratio = Total assets / Debt = (Equity + debt)/Debt

1/.46 = 1+ equity/debt

Or

Debt/Equity = 1/(1/.46 - 1)

Debt/Equity = .85

Further,

ROE = Profit margin * total asset turnover* (1+ Debt/equity)

Here, equity multiplier = (1+ Debt/equity)

ROE = .065*1.5*(1+.85)

ROE = .18 04 or 18.04%

Retention ratio (b) = 1- 30% = 70% or .7

Now,

Sustainable growth rate = (ROE*b)/(1-ROE*b)

Sustainable growth rate = (.1804*.70)/(1-(.1804*.70))

Sustainable growth rate = 14.453% or 14.45%