Question

A company wishes to maintain an internal growth rate of 7.1% and a dividend payout ratio of 25% per year. The ratio of total assets to sales is constant at 0.85. What profit margin must the firm achieve

Answer 1

Answer:

7.514%

Explanation:

Given that,

Internal growth rate = 7.1%

Dividend payout ratio = 25% per year

Total assets to sales ratio = 0.85

ROA:

= Internal growth rate ÷ [(1 - payout ratio)(1 + internal growth rate)]

= 7.1% ÷ [(1 - 25%)(1 + 7.1%)]

= 0.071 ÷ (0.75 × 1.071)

= 0.071 ÷ 0.80325

= 8.84%

ROA = Net income ÷ Total assets

Now, we multiply and divide right hand side by sales

ROA = (Net income ÷ sales) ÷ (Total assets ÷ sales)

        = (Net income ÷ sales) × (sales ÷ total assets)

8.84% = Profit margin × (1 ÷ 0.85)

Profit margin = 8.84% × 0.85

                      = 7.514%