Description
Sustainable Growth Rate (SGR) is the rate at which a company can grow depending on its current capital structure. Companies aim for SGR by maintaining the right mix of debt and equity.
Example
If a company's return on equity (ROE) is 10% and its dividend payout ratio is 20%, the sustainable growth rate will be:Sustainable Growth Rate (SGR) = (1 – 20%) × 10% = = 0.80 x 0.10 = 8%This can be interpreted as the company being able to grow at a rate of 8% per year if the capital structure remains the same and its operations are consistent with past performance.
Why it matters
To survive in the long run, companies must aim for a high sustainable growth rate. A high SGR translates into the company's ability to grow its sales efforts and improve its profit margins. It also indicates that the company can effectively manage its receivables, payables, and inventory.