Question

Required:

a.         Major Manuscripts, Inc. does not want to incur any additional external financing. The dividend payout ratio is constant. What is the firm's maximum rate of growth?

b.         How rate of growth can help the firm in financial planning. Discuss.

Answer 1

1. As the firm doesn’t want to incur any additional external financing/ debt. Major Manuscripts, Inc. needs to retain as much as it can in the company so that further debt requirement wont be required. Nevertheless, it is to be noted that at times a company’s growth gets hampered due to these kind of decisions. As the dividend pay-out ratio is constant, the firm's maximum rate of growth is restricted to the amount reinvested in the company after paying off dividend.
2. The annual rate of growth in the company can be favourable if it is planned and reinvested with proper planning. A company in which cash conversion cycle is less enjoys the highest benefit of growth as the sales is immediately converted in cash, which is reused in the company again. But to manage sudden growth it is important to plan your financing to have the best possible conditions for your debt (cheapest debt). A company should never pay for large expansion projects out of your cash flow even if it looks like you’ve got tons of extra cash on hand right now. When cash flow position is strong then the company thinks that it will always be like that. However, it is never like that as the company is growing, it has to invest much more to fund growth, capture other markets, beat the competition, sales and marketing expenses, innovation/ R&D and planning the launch of other products.