Internal Growth Rate Saddle and Bridle reported a profit margin of 12%, total asset turnover ratio of 2 times, debt-to-equity ratio of 1.9 times, net income of $1 million, and dividends paid to common stockholders of $250,000. The firm has no preferred stock outstanding. What is Saddle and Bridle's internal growth rate?
A) 13.64%
B) 18.00%
C) 24.00%
D) 21.95%

Question

Quizplus · Accepted Answer

Internal Growth Rate formula is: (1 - payout ratio) x (profit margin) x (total asset turnover) x (1 + debt-to-equity)

- Payout ratio = dividends paid / net income = $250,000 / $1,000,000 = 0.25
- Using the given values and plugging them into the formula, we get: 
(1 - 0.25) x 0.12 x 2 x (1 + 1.9) = 0.7692 or 76.92%

However, the internal growth rate cannot exceed the sustainable growth rate, which takes into account external financing through debt or equity. Since we are not given any information about external financing, we must assume that the sustainable growth rate is equal to the internal growth rate. Based on this assumption, the best choice is D, 21.95%, which is the internal growth rate based on a more conservative assumption.

Internal Growth Rate Saddle and Bridle Reported a Profit Margin