Last year Axle Inc., reported total assists of $400, equity of $200, net income

Question

Last year Axle Inc., reported total assists of $400, equity of $200, net income of $50, dividends of $10, and earnings retained in the period of $40. What is Axle Inc.’s sustainable growth rate? What is Axle Inc.’s internal growth rate? Explain the difference in these growth rates. Last year Axle Inc., reported total assists of $400, equity of $200, net income of $50, dividends of $10, and earnings retained in the period of $40. What is Axle Inc.’s sustainable growth rate? What is Axle Inc.’s internal growth rate? Explain the difference in these growth rates.

Explanation / Answer

retention ratio=1-10/50=0.8

RoA=50/400=12.5%

RoE=50/200=25%

internal growth rate=(RoA*Retention)/(1-RoA*Retention)=(12.5%*80%)/(1-12.5%*80%)=11.11%

sustainable growth rate=(RoE*Retention)/(1-RoE*Retention)=(25%*80%)/(1-25%*80%)=25%

Internal growth rate is the growth rate that can be fulfilled through internal funds

Sustainable growht rate is the growth rate that can be fulfilled through internal funds and issuing debt to maintain cosntant D/E ratio

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