Sustainable Growth Rate Calculator

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Sustainable Growth Rate Calculator

function calculateSGR() { var netProfitMargin = parseFloat(document.getElementById("netProfitMargin").value); var retentionRatio = parseFloat(document.getElementById("retentionRatio").value); var returnOnEquity = parseFloat(document.getElementById("returnOnEquity").value); var resultElement = document.getElementById("result"); resultElement.innerHTML = ""; // Clear previous results if (isNaN(netProfitMargin) || isNaN(retentionRatio) || isNaN(returnOnEquity)) { resultElement.innerHTML = "Please enter valid numbers for all fields."; return; } // The Sustainable Growth Rate (SGR) formula is: // SGR = ROE * RR // where ROE is Return on Equity and RR is Retention Ratio. // Some variations use: SGR = Net Profit Margin * Retention Ratio * (1 + Debt-to-Equity Ratio) / (1 – Net Profit Margin * Retention Ratio * (1 + Debt-to-Equity Ratio)) // For a simpler, commonly used version focusing on reinvestment and profitability, we use: // SGR = Return on Equity * Retention Ratio var sustainableGrowthRate = returnOnEquity * retentionRatio; resultElement.innerHTML = "The Sustainable Growth Rate (SGR) is: " + (sustainableGrowthRate * 100).toFixed(2) + "%"; }

Understanding the Sustainable Growth Rate (SGR)

The Sustainable Growth Rate (SGR) is a financial metric that represents the maximum rate at which a company can grow its sales and earnings without having to seek external financing or dilute existing shareholders' equity. In essence, it's the pace at which a company can expand using only its internally generated profits and retained earnings.

The Formula Explained

The most straightforward and widely used formula for the Sustainable Growth Rate is:

SGR = Return on Equity (ROE) × Retention Ratio (RR)

  • Return on Equity (ROE): This measures how effectively a company is using its shareholders' equity to generate profits. It's calculated as Net Income divided by Shareholders' Equity. A higher ROE indicates that the company is more profitable relative to its equity base.
  • Retention Ratio (RR): This represents the proportion of a company's net income that is reinvested back into the business rather than distributed as dividends. It's calculated as (Net Income – Dividends) / Net Income, or simply 1 – Dividend Payout Ratio. A higher retention ratio means more earnings are being plowed back into growth initiatives.

By multiplying these two figures, we get the SGR, which tells us the growth rate achievable by reinvesting profits at the company's current profitability and efficiency levels.

Why is SGR Important?

  • Financial Planning: SGR helps management set realistic growth targets and plan for future capital needs.
  • Investment Decisions: Investors can use SGR to assess a company's organic growth potential and its financial stability. A company growing faster than its SGR might be taking on unsustainable debt or diluting its equity.
  • Valuation: SGR can be a component in business valuation models, particularly those based on discounted cash flows or dividend growth.
  • Efficiency Indicator: It highlights the company's ability to generate profits and reinvest them effectively.

Factors Influencing SGR

The SGR is not static and can be influenced by changes in:

  • Profitability: Increases in net profit margin or improvements in asset utilization can boost ROE and thus SGR.
  • Dividend Policy: A decision to retain more earnings (increase RR) will directly increase SGR, assuming ROE remains constant.
  • Capital Structure: While the simplified formula focuses on ROE and RR, changes in leverage (debt-to-equity ratio) can also indirectly affect growth capabilities, although this is often incorporated into more complex SGR models.

Example Calculation

Let's consider a company, "GreenTech Innovations," with the following financial data:

  • Net Profit Margin: 12% (or 0.12 as a decimal)
  • Retention Ratio: 70% (or 0.70 as a decimal) – meaning 70% of profits are reinvested.
  • Return on Equity (ROE): 18% (or 0.18 as a decimal)

Using our calculator:

  • Net Profit Margin: 0.12
  • Retention Ratio: 0.70
  • Return on Equity: 0.18

Calculation: SGR = ROE × Retention Ratio = 0.18 × 0.70 = 0.126

Therefore, GreenTech Innovations' Sustainable Growth Rate is 12.6%. This means the company can afford to grow its sales and earnings by approximately 12.6% per year using only its internally generated funds, without increasing its financial leverage or issuing new shares.

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