Question

You are considering investing in Annie’s Eatery. You have been able to locate the following information on the firm: Total assets are $41 million, accounts receivable are $6.1 million, ACP is 30 days, net income is $4.51 million, debt-to-equity is 1.7 times, and dividend payout ratio is 45 percent. All sales are on credit. Annie’s is considering loosening its credit policy such that ACP will increase to 35 days. The change is expected to increase credit sales by 5 percent. Any change in accounts receivable will be offset with a change in debt. No other balance sheet changes are expected. Annie’s profit margin and dividend payout ratio will remain unchanged.

Calculate the sustainable growth rate for current and new year and also indicate the change in these numbers? (Do not round intermediate calculations and round your final answers to 2 decimal places.)

Answer 1

Dividend Payout ratio = 45% [given]

Retention ratio = 1 - Dividend Payout ratio

= 1 - 0.45

= 55%

Accounts Receivable = $6.1 million [given]

Current ACP = 30 days [given]

Current Sales =$74.22 million

Net Income = $4.51 million [given]

Net profit margin = $4.51 / $74.22

Net profit margin = 6.08%

Total Sales = $74.22 million

Total Assets (Debt + Equity) = $41 million [given]

Debt/Equity ratio = 1.7 [given]

Equity / (Debt + Equity) = 1 / (1 + 1.7) = 0.37

Equity = 15.17 million

Sustainable growth rate = Net Income / Equity * Retention ratio

Current year = 4.51 / 15.17 * 0.55 = 16.35%

New year = 4.7355 / 15.17 * 0.55 = 17.17%

Change in sustainable growth = 0.82%