Goldilochs Inc. reported sales of $8 million and net income of $1.5 million. The firm has $10.5 million in total assets and $1 million in current liabilities. The firm currently pays out 75 percent of its net income to shareholders. Assume that all assets and current liabilities are expected to grow with sales. If Goldilochs does not want to rely on any external sources of funds, what is the most sales can grow (in dollars)?
A) $187,900
B) $299,900
C) $328,800
D) $364,100

Question

Quizplus · Accepted Answer

The sustainable growth rate can be calculated using the formula: SGR = (ROA * b) / (1 - ROA * b), where ROA is Return on Assets (Net Income / Total Assets), and b is the retention ratio (1 - payout ratio). Here, ROA = $1.5 million / $10.5 million = 0.142857, and b = 1 - 0.75 = 0.25. So, SGR = (0.142857 * 0.25) / (1 - 0.142857 * 0.25) = 0.035714 / 0.964286 = 0.037037. The maximum sales growth without external financing = SGR * current sales = 0.037037 * $8 million = $296,296. Since none of the options exactly match this calculation, the closest option, which is the correct interpretation of the question's intent, is $299,900. However, given the discrepancy in calculation, the correct approach to determine the maximum sales growth without external financing involves calculating the increase in assets needed to support sales growth and ensuring internal financing (retained earnings) can cover this increase. With a net income of $1.5 million and a retention ratio of 25%, retained earnings = $1.5 million * 0.25 = $375,000. Since assets and liabilities grow with sales, the increase in net assets needed = increase in total assets - increase in current liabilities. Assuming all of the retained earnings are used to finance the growth, $375,000 = increase in assets - increase in liabilities. Given the assumption that assets and liabilities grow at the same rate, the calculation simplifies to finding the sales growth that can be supported by $375,000 of internal financing. Without a direct formula in the options provided, the correct answer involves understanding the relationship between sales growth, asset requirements, and internal financing capabilities. The discrepancy in the explanation indicates a need to reevaluate the calculation or the interpretation of the question's requirements.