Question

Income Statement

Net sales 7,600
Cost of goods sold 6,715
Depreciation 200
Earnings before interest and taxes 685
Interest paid 20
Taxable Income 666
Taxes 232
Net income 434
Dividends 195
Balance Sheet
Cash 2,150 Accounts payable 1,550
Accounts rec. 830 Long-term debt 260
Inventory 2,600 Common stock 2,400
Total 5,580 Retained earnings 4,480
Net fixed assets 3,110
Total assets 8,690 Total liabilities and
equity 8,640
If the Nitro Tap Company maintains a constant debt-to-equity ratio, what growth rate can it maintain? Assume no additional external equity financing is available.

Answer 1

3.47%

Step-by-step explanation:

sustainable growth rate = retention rate x ROE

ROE = net income / shareholders' equity = 434 / 6,880 = 6.308%

retention rate = 1 - dividends/net income = 1 - 195/434 = 1 - 0.4493 = 0.5507

sustainable growth rate = 6.308% x 0.5507 = 3.4738% ≈ 3.47%

A company's sustainable growth rate is the growth rate that the company may experience on a long term basis. In order for a company to be able to grow, it must be able to either reinvest their earnings, obtain external financing or raise additional equity. In this case, we were told that no additional equity would be raised and that the debt/equity ratio would remain constant.