The Sustainable Growth Rate (SGR) is a number that shows the company's ability to increase revenue without increasing its own capital, attracting loans from creditors, or obtaining funds from investors. For small business owners, this number represents how much money can be made without adding equity or bank loans. Small and large-scale business owners must calculate the sustainable growth rate in order to determine whether or not there is sufficient capital available to achieve the targeted business growth.
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Part 1 of 2: Calculating the Sustainable Growth Rate
Step 1. Divide sales by total assets
The quotient of sales and total assets as a percentage is called the asset utilization rate, which is the percentage of sales from total assets.
For example: total assets at the end of the year = IDR 100,000. Total sales for 1 year = IDR 25,000. Asset utilization rate = Rp25,000/Rp100,000 = 25%. This means, you are leveraging 25% of the company's assets to generate sales
Step 2. Divide net income by total sales
The figure obtained is the company's profitability at the end of the year or the percentage of profit from total sales for 1 year after deducting all costs. (Net revenue is total sales minus expenses).
For example: net income = IDR 5,000. The company's level of profitability = IDR 5,000 / IDR 25,000 = 20%. This means, for 1 year, you earn a net income of 20% of total sales and the rest is used to fund expenses that must be paid by the company
Step 3. Divide total debt by total equity
The figure obtained is the company's level of financial utilization.
- Calculate total equity by subtracting total debt from total assets.
- For example: total debt = IDR 50,000 and total equity = IDR 50,000. This means the level of financial utilization = 100%.
Step 4. Multiply the level of asset utilization, profitability, and financial utilization
After calculating the three percentages, multiply. The figure obtained is the ratio of profit to equity (Return on Equity [ROE]). This figure shows the amount of company profits that can be used to generate profits in the future.
For example: to calculate ROE, multiply the three percentages above, 25% x 20% x 100% = 5%
Step 5. Divide net income by total dividends
The figure obtained is the dividend ratio, which is the percentage of income distributed to shareholders. (If you are a small business owner, any income you receive for yourself at the end of the year excluding salary is dividends).
For example: Net income = IDR 5,000. Dividend = IDR 500. Dividend ratio = Rp500/Rp5,000 = 10%
Step 6. Subtract the dividend ratio from 100%
This is the company's retention ratio or the percentage of net income retained for the benefit of the company after paying dividends.
- For example: company retention ratio = 100% - 10% = 90%.
- The company's retention ratio plays an important role because it affects the sustainable growth rate of dividends to be distributed and it is assumed that the company will continue to pay dividends according to this ratio in the future.
Step 7. Multiply the company's retention ratio and ROE
This is what is called sustainable growth rate. This figure represents the size of the company's profit from the company's investment without issue new shares, deposit personal funds into equity, increase debt, or increase profit margins.
For example: to calculate the sustainable growth rate, multiply the company's ROE and retention ratio = 5% x 90% = 4.5%. In conclusion, the company is able to increase the profit that will be deposited as equity by 4.5% per year
Part 2 of 2: Leveraging Sustainable Growth Rate Data
Step 1. Calculate the actual growth rate
The actual growth rate is the increase in sales over a certain period. To calculate it, divide the sales figures for the previous period by the sales during the current period. The period for calculating the actual growth rate must be the same as the period for calculating the sustainable growth rate.
- The actual growth rate may differ if it is calculated based on the monthly, quarterly or period used to report the company's financial performance. This figure is usually volatile because it only calculates the percentage change in sales figures.
- When calculating the actual growth rate, make sure you use the sales figures over the same period. If you compare the fourth quarter sales figures with the first month of the same year, the results will be much larger than they should be. Make sure you use data with comparable periods, for example: week to week, month to month, quarter to quarter, year to year, and so on.
Step 2. Compare the actual growth rate with the sustainable growth rate
The actual growth rate may be higher, lower, or equal to the sustainable growth rate. Higher actual growth seems positive, but it shows that the company does not have enough cash to meet business needs according to the actual growth rate. If the sustainable growth rate is greater than ROE, this means that the company has not yet achieved maximum performance.
- For example: the owner of a construction company that builds a house starts his business by investing IDR 100,000 in equity and withdrawing a bank loan of IDR 100,000. After running for 1 year, he calculated the growth rate of the business. As it turned out, the actual growth rate was higher than the sustainable growth rate. As sales increased, he needed additional funds to pay for labor and material costs in order to build a house to earn an income. The increase in sales is a positive thing for the company, but the business owner cannot afford to pay all costs without additional funds from other parties. By knowing the difference in growth rates, the business owner can plan whether he will seek funding sources or limit the actual growth rate.
- A high actual growth rate is not a negative. This means the company needs additional operational funds, for example by issuing new shares, withdrawing loans, reducing dividends, or increasing profit margins. Newly operating company owners usually do not withdraw loans or issue shares at the beginning of the year and prefer to match the actual growth rate to the sustainable growth rate.
- If the actual growth rate is lower than the sustainable growth rate, it means that the company has not achieved maximum performance.
Step 3. Adjust the company plan
After understanding what is called the actual and sustainable growth rate, use the data to develop a company plan. If you plan for an actual growth rate to be higher than the sustainable growth rate, be prepared to pay more costs before you enjoy an increase in sales. Decide whether you want to withdraw a loan, issue stock, invest personal funds, or reduce dividends. If you don't select this option, slow down actual growth to equal sustainable growth so you don't have to invest more to pay for operating costs.
If the actual growth rate is lower than the sustainable growth rate, you have more assets than needed to carry out the company's plans. If you don't plan on increasing production, consider whether you want to pay off some debt or distribute dividends to shareholders
Step 4. Make wise decisions
Keep in mind that growth rates are calculated based on past data and cannot accurately predict company performance. Actual and sustainable growth rates may never be the same. So, use these numbers as a tool and guide for crafting a company plan, rather than as data that hinders decision-making or puts business in jeopardy. The sustainable growth rate will be more beneficial after the company is running for some time and the business is more reliable. In the first year, the actual and sustainable growth rate may be very volatile, but this is to be expected.
