Unit 4 | Submission Question|
How does a company assess its sustainable growth rate (SGR)?
How does a firm use the SGR in decision making?
What are the consequences for a firm that grows a higher rate than its SGR?
What are the consequences for a firm that grows at a lower rate than its SGR?
Consider the following ideas to include in your answer:
Which variables are used in calculating the SGR?
How does a firm use the SGR in choosing a financing option?
How does a firm finance a growth that is higher than its SGR?
What is the opportunity cost for a firm that grows at a lower rate than its SGR?
The sustainable growth rate is the maximum rate of growth that a firm can sustain without having to increase financial leverage or look for outside financing. The advantages of using SGR is that firms avoid more leverages and firms circumvent unprofitable growth. The variables used in calculating the SGR are: initial assets, initial liabilities, profit margin, payout ratio and initial sales. A firm uses the SGR in decision making to help with assessing the amount of sales growth the current financial structure can afford. After the firm has passed its SGR, it must borrow funds from another source to facilitate growth.
The consequences for a firm that grows at a higher rate than its SGR is new financing will be needed(debt, equity offering, new preferred stock, and so on). This will affect important ratios, such as the return on equity, the debt ratio, and others. Firms finance a growth that is higher than its SGR by borrowing the required cash needed. Firms may have a lower SGR if total equity increases.
The consequences for a firm that grows at a lower rate than its SGR is there would be a missed opportunity of profit for the firm. Missed profit could boost the return on equity, the profit margin, and the current ratio. The firm may need to increase its production by investing in equipment. It can have a higher SGR if its firm net income increases.
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