Firm X's sustainable growth rate

You are given the following financial statements for firm X.

Income Statement

Balance Sheet

Sales

1000

Net Assets

1200

EBIT

250

Equity

1200

Net Income

200

Firm X pays no dividends and is unlevered. The tax rate is 20%.

1. Calculate the Internal Growth Rate.

b. Calculate the Sustainable Growth Rate for the following values of the leverage ratio: 2:1, 3:1, 4:1. Assume a cost of debt Rd

=10%. If Firm X needs to maintain an Interest Coverage Ratio (ICR = EBIT/Interest Expense) of at least 3 to keep its current credit rating, what is its highest feasible leverage ratio among these?

LeverageEquityDebtInt. Exp.Net IncomeSGRICR

2:1

3:1

4:1