Enter the retention plow back ratio and return on assets of a company into the calculator to determine the internal growth rate.

Internal Growth Rate Formula

The following formula can be used to calculate an internal growth rate of a business.

IGR = ROA * b / (1- ROA * b)
• Where IGR is the internal growth rate
• ROA is the return on assets
• b is the plow back ratio

Return on assets is a financial ratio that measures a company’s profitability by evaluating its net income about its total assets.

The plow-back ratio is a measure of how much of a company’s earnings are reinvested back into the business for growth and expansion.

Internal Growth Rate Definition

The internal Growth Rate is the maximum rate at which a company can expand its operations using only its internal resources, such as retained earnings. It is an important metric for businesses as it helps determine the company’s ability to grow without relying on external funding sources, such as debt or equity financing.

The Internal Growth Rate is calculated by subtracting the company’s dividend payout ratio from its return on assets. The dividend payout ratio represents the portion of earnings that the company distributes to shareholders as dividends, while the return on assets measures the profitability of the company’s assets.

A higher Internal Growth Rate indicates that the company can generate sufficient profits from its operations to reinvest in itself and fuel its growth without diluting ownership or taking on additional debt. This self-sustainability is desirable as it minimizes the company’s reliance on external funding, reducing financial risks and potentially increasing shareholder value.

By understanding its Internal Growth Rate, a company can make informed decisions regarding its expansion strategies and capital allocation. It gives management an estimate of the company’s growth potential and helps set realistic targets for future growth.

Internal Growth Rate Example

How to calculate internal growth rate?

1. First, determine the return on assets.

Calculate the total return on assets over a period of time.

2. Next, determine the plowback ratio.

Calculate the plowback ratio.

3. Finally, calculate the internal growth rate.

Calculate the internal growth rate using the formula above.

FAQ

Why is the internal growth rate important for a company?

The internal growth rate is crucial as it indicates a company’s ability to expand its operations using only its internal resources, such as retained earnings, without relying on external funding. This self-sustainability is desirable for minimizing financial risks and potentially increasing shareholder value.

How does the plowback ratio affect a company’s internal growth rate?

The plowback ratio directly influences a company’s internal growth rate by determining the portion of earnings reinvested back into the business. A higher plowback ratio means more earnings are retained for growth, potentially leading to a higher internal growth rate.

Can a company have a negative internal growth rate?

Yes, a company can have a negative internal growth rate if it experiences a loss in its operations, leading to negative retained earnings. This indicates that the company is shrinking rather than growing internally.

How often should a company calculate its internal growth rate?

A company should calculate its internal growth rate regularly, typically on an annual basis, to monitor its growth potential and make informed decisions regarding expansion strategies and capital allocation.