Question

Crofter Ltd had total assets of $950,000 and equity of $290,000 at the beginning of the year. At the end of the year, the company had total assets of $810,000. During the year, the company sold no new equity. Net income for the year was $140,000. At the end of the year, Crofter Ltd paid total dividends of $120,000.

Required

(i) Please calculate Crofter's growth rate using start-of-year equity.

(ii) Please show how you get the same result if you base your calculation on the end-of year equity figure.

Answer 1

Answer with formulas:

Growth rate formula = retention rate*Return on equity

Dividend payout ratio = Dividends paid/Net income

                                        = 120,000/140,000

                                       = 85.71%

 

Retention rate = 1 - Dividend payout ratio

                           = 1 - 85.71%

                           = 14.29%

 

1.

Return on equity using start of year equity = Net income/start of year equity

                                                                             = 140000/290000

                                                                             = 48.28%

 

Growth rate using start of year equity = 14.29%*48.28%

                                                                    = 6.90%

 

2.

End of period Equity = Start of year equity + Retained earnings

                                      = 290000 + (140000-120000)

                                     = 310000

 

Return on equity using end of year equity = Net income/end of year equity

                                                                           = 140000/310000

                                                                           = 45.16%

 

Growth rate using end of year equity = 14.29%*45.16%

                                                                   = 6.45%

1. Growth rate using start of year equity = 6.90%.

2. Growth rate using end of year equity = 6.45%.