What effect on the growth rate of earnings can be accomplished by decreasing the dividend-payout ratio from 70 percent to 40 percent if the firm has an ROE of 20 percent?
A)The growth rate can increase from 6 percent to 10.5 percent
B)The growth rate can increase from 6 percent to 12 percent
C)The growth rate can increase from 8 percent to 14 percent
D)The growth rate can increase from 11 percent to 14 percent current growth rate in earnings = plowback ratio x ROE
= )3 x .2 = 6%

Question

Quizplus · Accepted Answer

By decreasing the dividend-payout ratio from 70% to 40%, the plowback ratio (or retention ratio) would increase from 30% to 60% (100% - 40%). Using the formula for the growth rate in earnings, which is plowback ratio x ROE, the new growth rate can be calculated as 60% x 20% = 12%. Therefore, the growth rate can increase from 6% (current growth rate) to 12% if the dividend-payout ratio is decreased.

What Effect on the Growth Rate of Earnings Can Be