Xlink Company has an expected ROE of 15%.The dividend growth rate will be _______ if the firm follows a policy of plowing back 75% of earnings.
A)3.75%
B)11.25%
C)8.25%
D)15.0%
E)none of the above

Question

Quizplus · Accepted Answer

The formula for calculating the sustainable growth rate (g) is:

g = ROE x retention ratio

Given that Xlink Company has an expected ROE of 15% and is plowing back 75% of earnings, the retention ratio would be:

Retention ratio = 1 - Dividend payout ratio

Dividend payout ratio = 1 - Retention ratio

Dividend payout ratio = 1 - 0.75

Dividend payout ratio = 0.25

Therefore, the retention ratio would be:

Retention ratio = 0.75

Using the formula for sustainable growth rate:

g = ROE x retention ratio

g = 15% x 0.75

g = 11.25%

Therefore, the dividend growth rate would be 11.25%.

Xlink Company Has an Expected ROE of 15