What is the difference between EFN and sustainable growth rate? Give a hypothetical situation where one...

What is the difference between EFN and sustainable growth rate? Give a hypothetical situation where one measure would be a more important measure to a company’s management that the other.

Expert Solution

External financial needs (EFN) is related to financial needs of the company which are managed through external sources and it incorporates-

A. Required increase to asset given a change in the sales.

B. Required increase in retained earning as result of income less any distribution.

C. Required increase to liability given a change in sales

Where the sustainable growth rate means that companies maximum growth rate in sales using internal financial sources and not taking any debt or equity which is external in nature.

When the company is exploring into new opportunities which can maximize its overall sales and help in capturing a large market share, it can go for external financing because if the rate of return on the project is higher than the cost of capital , then it will lead to maximization of growth and maximization of shareholders wealth.

If the company is not able to generate excessive return on its capital and it is not able to repay its external repayment schedule then it should stick to internal method of financing and sustainable growth rate.

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