Answer:
Explanation:
If a company chooses to grow at its Sustainable Growth Rate (SGR), it means that the company is expected to grow at a rate that is consistent with its current financial policies and capital structure. This would result in increases in both retained earnings and debt as the company reinvests earnings and potentially borrows more to finance growth.
In terms of the Weighted Average Cost of Capital (WACC), the increase in debt can lead to an increase in the cost of debt financing. This is because an increase in debt raises the company's risk level, which makes lenders demand higher interest rates to compensate for that risk. This higher cost of debt would, in turn, increase the company's WACC, as the cost of debt is one of the components of the WACC calculation.
On the other hand, an increase in retained earnings can lead to a decrease in the cost of equity financing. This is because the company is using its own resources to finance growth, which reduces the perceived risk to investors. This reduction in perceived risk can lead to a decrease in the company's cost of equity, which would also reduce the overall WACC.
In summary, if a company chooses to grow at its Sustainable Growth Rate, the impact on its WACC will depend on how the company finances its growth. An increase in debt would lead to an increase in the cost of debt financing, which would raise the company's WACC. However, an increase in retained earnings would lead to a decrease in the cost of equity financing, which would lower the company's WACC. The net effect on the WACC would depend on the relative magnitudes of these changes.