How to use the sustainable growth rate calculator
- Choose whether to start from net income and equity, or from margin, turnover and the equity multiplier.
- Enter the figures, which give the return on equity.
- Enter the dividend payout as a percent of net income or as dollars.
- Read the retention ratio and the sustainable growth rate, with the ending-equity version below.
Formula
Return on equity = net income / equity, or margin x asset turnover x equity multiplier
Retention ratio b = 1 - payout ratio
Sustainable growth rate g = ROE x b
With equity measured at the end of the year: g = ROE x b / (1 - ROE x b)
The rate assumes the profit margin, asset turnover, debt ratio and payout ratio all stay the same.
Net income of $100,000 on $666,667 of equity
The return on equity is 15.00%. With a 40% payout the company keeps 60%, so the sustainable growth rate is 0.15 x 0.60 = 9.00%. If return on equity were measured on ending equity, the version 0.09 / (1 - 0.09) gives 9.89%.
With the DuPont inputs of a 6% margin, 1.5 asset turnover and a 1.667 equity multiplier, the return on equity is 15.00% again, so the result is the same. If the company pays out nothing, it keeps all of its earnings and the rate rises to 15.00%.
What the rate tells you
A company can grow its sales only as fast as it can fund the extra assets it needs. If it does not sell shares and keeps its debt ratio steady, the money must come from retained earnings. The sustainable growth rate is the fastest growth that fits those limits. Growing faster means selling shares, borrowing a larger share, or improving margin or turnover.
Splitting return on equity into margin, turnover and leverage shows which lever is behind it. A high rate that depends on heavy debt is not the same as one that comes from a strong margin.
Using the result with care
The figure is a guide to planning and not a forecast. A payout ratio of more than 100% would make the retention negative, so the tool does not accept it. Related ratios are in the DuPont ROE Analysis Calculator and the Sales Growth Rate Calculator. To see the leverage behind the equity multiplier use the Debt to Equity Ratio Calculator, and for what a payout means in dollars the Dividend Calculator.
Assumptions and limits
- The company issues no new shares and keeps the same ratio of debt to equity.
- Margin, asset turnover and payout stay the same as in the year you enter.
- The figures shown are examples. Use your own financial statements.
- Return on equity uses equity at the start of the year unless you use the ending-equity version.
Frequently asked questions
Why are there two growth rates?
The first uses equity at the start of the year. The second uses equity at the end, which already includes the retained earnings, so it gives a slightly higher figure.
What if the payout is zero?
Then the whole of net income is kept, and the sustainable growth rate equals the return on equity.
Can the rate be negative?
Yes. A loss gives a negative return on equity, and the rate shows how fast equity would shrink at that payout.
Is it the same as the internal growth rate?
No. The internal growth rate uses return on assets and ignores new borrowing. The sustainable rate allows debt to grow with equity.