Self Sustainable Growth Rate: Inherent Growth Potential of a Company

Modified: 03-Feb-21

 daSelf Sustainable Growth Rate (SSGR) is the rate of growth, which a company can achieve from its profits without relying on additional sources like debt or equity dilution. SSGR estimation has occupied an important part of my stock analysis as it indicates the strength of the business model of a company.

A company with high Self Sustainable Growth Rate can continue to show high growth rates without impairing its capital structure, i.e. without raising high debt. I believe that the growth funded by profits is the best form of growth as it keeps the company insulated from many adverse factors during tough economic environments.

Debt has a high cost attached to it. The interest eats into the profitability. Interest and principal need to be paid as per agreed schedule irrespective of the company generating profits or not. This increases the risk of bankruptcy during tough times.

The shareholders of debt-free companies can sleep easy at night irrespective of the company facing economic headwinds or tailwinds. Debt-free companies have the leeway of reducing prices, dividend payouts and even suffer losses for a longer period than debt-laden companies. Therefore, debt-free companies have a higher probability of coming out successful from economic downturns and provide avenues of long-term growth to investors at a lower risk.

Self Sustainable Growth Rate (SSGR) is one such parameter that can help an investor determine, which companies would be able to show debt-free growth in future. The investor can then study further about these companies and post detailed analysis, she can shortlist companies for investment. The investor, convinced with detailed financial, business, management & valuation analysis and high SSGR, can keep the invested companies in her portfolio with confidence.

I thank my friend, Saurabh Dwivedi, a sea-surfer turned banker, for providing his valuable time & inputs where after multiple rounds of discussions & iterations, we could bring the Self Sustainable Growth Rate (SSGR) formula to the implementation stage.

Self Sustainable Growth Rate derives its genesis from the basic outline of a company’s growth story. During its life, a company needs to:

  1. Sell products in the market
  2. Generate profits from these sales
  3. Pay dividends from its profits
  4. Invest undistributed profits in the company’s assets
  5. Use these assets to produce sales in the future

A company needs to do these activities year on year for long periods. If the company were able to do it successfully, then it would generate a huge amount of wealth for its shareholders.

The efficiency level of any company on the steps discussed above can be easily assessed by readily available information in the public domain:

  1. Net Profit Margin (NPM): NPM highlights the ability of the company to generate profits from sales.
  2. Dividend Payout Ratio (DPR): DPR indicates the share of profits that is distributed as dividends to shareholders. (1-DPR) reflects the share of profits retained by the company for reinvestment in its own operations. 
  3. Depreciation (Dep): Depreciation indicates the wear & tear of a company’s assets over time. It is an indicator of reduced efficiency of existing assets to produce sales as these assets become older.
  4. Net Fixed Assets Turnover (NFAT): NFAT provides the sales generation ability of a company from its net fixed assets. (net fixed assets = gross fixed assets – depreciation)

If an investor analyses the combined effect the four parameters discussed above, then she would be able to arrive at the expected growth rate of a company by utilizing only the retained profits. This expected growth rate is Self Sustainable Growth Rate (SSGR).

The central theme of Self Sustainable Growth Rate calculation is to first, find out the amount of funds available for reinvestment and then, the efficiency level with which these invested funds are utilized by the company. We can understand it by the elaboration given below:

  • Funds available for reinvestment (Reinvest-able funds) = (Sales in Year ‘0’)*NPM*(1-DPR)
  • Fixed assets at end of the year ‘0’/start of year ‘1’ = Fixed assets at the start of year ‘0’ – Depreciation + Reinvest-able funds
  • Sales expected in next year (Year ‘1’) = Fixed assets at end of year ‘0’ * NFAT
  • Self Sustainable Growth Rate (SSGR) in % = (Sales in Year ‘1’ / Sales in Year ‘0’)-1

Using the understanding of SSGR as discussed above and some simple algebraic operations, the formula of SSGR calculation is reduced to the following equation:

SSGR = [(1-Dep) + NFAT*NPM*(1-DPR)] – 1

We thank Sanjib Mandal for suggesting us to solve this equation one step further and simplify it further to the following formula:

SSGR = NFAT*NPM*(1-DPR) – Dep

Where,

  • SSGR = Self Sustainable Growth Rate in %
  • NFAT = Net fixed asset turnover (Sales/average net fixed assets over the year)
  • NPM = Net profit margin as % of sales
  • DPR = Dividend paid as % of net profit after tax
  • Dep = Depreciation rate as a % of net fixed assets

We have provided a sample mathematical manual calculation of SSGR for a sample case (FDC Ltd) in this article below. You may refer to it to understand more about, how we calculate SSGR in our analysis.

(For details of step by step algebraic calculation of SSGR formula: Click Here)

The Self Sustainable Growth Rate (SSGR) formula is a simplified one, because:

  1. All the input ratios like NPM, Depreciation, Dividend Payout, Fixed Asset Turnover keep on changing year after year and a huge variation in any one year can significantly alter the SSGR output.
  2. The formula assumes that profits reinvested in any year get converted into fixed assets in the same year and start generating sales from next year. However, in reality, any capital expenditure (capex) done by a company would take a few months or years to become operational in form of increased production capacity.
  3. The formula does not factor in an important parameter where funds are locked in or released during the year, which is working capital.

Out of the three points highlighted above, the first two can be mitigated by taking an average of last 3-year data of all the ratios i.e. NPM, Depreciation, Dividend Payout and Net Fixed Asset Turnover. Taking average will reduce the impact of any single year abnormal high/low value. Simultaneously, it will also ensure that the impact of reinvested profits of each year get distributed over 3 years, which is a reasonable period for any company to operationalize new capex into enhanced capacity.

Important: We have used the 3-year average of all the ratios for the cases discussed in the illustrations below.

Regarding the third point of funds being locked in/released from working capital, an investor can find the evidence from comparison of cumulative net profit after tax (cPAT) of last 10 years with the cash flow from operations (cCFO) over the same period. Based on her case-specific findings, the investor can adjust her interpretation of SSGR outcome to reflect the reality. We would discuss some of such cases in the interpretation section below.

 

How to use Self-Sustainable Growth Rate (SSGR) in Stock Investing

A) If Self Sustainable Growth Rate (SSGR) is more than the sales growth of the company.

It indicates that the company has the ability to generate cash in excess of the requirement to sustain its current growth rate. Such companies usually keep on accumulating cash, can afford to give high dividends without impacting prospects of future growth or can increase their growth rate in future without straining their capital structure.

We can see examples of a few companies that have their Self Sustainable Growth Rate (SSGR) more than their current growth rates.

 

1) Paushak Ltd:

Paushak Ltd is India’s largest phosgene based speciality chemicals manufacturer. Paushak Ltd is a part of the Alembic Pharmaceuticals group.

While doing analysis of Paushak Ltd, an investor notices that the company has an SSGR in excess of 40-50% whereas its sales have grown at a rate of 15-20% year on year in the last 10 years.

Paushak Ltd Self Sustainable Growth Rate SSGR 1

An investor would notice that as Paushak Ltd is growing at a rate, which is well supported by its SSGR, therefore, the company does not need to raise debt or additional equity to fund its growth. As a result, the company has stayed debt-free. In addition, the company generated surplus cash and as a result, it could reward its shareholders by way of dividends buyback of shares.

An investor may read our detailed analysis of Paushak Ltd in the following article: Analysis: Paushak Ltd

 

2) GM Breweries Ltd:

GM Breweries Ltd is an Indian country liquor manufacturer, focusing on the Mumbai & Thane markets in Maharashtra.

While analysing GM Breweries Ltd, an investor notices that the company has an SSGR of about 50% whereas it has grown its sales at a rate of 8-9% over the last 10 years.

GM Breweries Ltd Self Sustainable Growth Rate SSGR

As a result, an investor would appreciate that GM Breweries Ltd is growing at a rate, which is well supported by its SSGR. Therefore, the company does not need to raise debt or additional equity to fund its growth. Therefore, it does not come as a surprise to the investor when she notices that GM Breweries Ltd is a debt-free company.

An investor may read our detailed analysis of GM Breweries Ltd in the following article: Analysis: GM Breweries Ltd

 

3) Finolex Cables Ltd:

Finolex Cables Ltd is a manufacturer of cables, fans, switches etc. The company specializes in electrical, power distribution and communication optical fibre cables.

The company has an SSGR of 50-60% whereas it has grown its sales at a rate of 3-4% over the years.

Finolex Cables Ltd Self Sustainable Growth Rate SSGR

The company is growing at a growth rate, which is lower than its SSGR. Therefore, it can easily support its growth without relying on additional debt or equity. Therefore, an investor may notice that over the last 10 years, Finolex Cables Ltd has repaid almost its entire debt of ₹260 cr and is currently nearly debt-free.

An investor may read our detailed analysis of Finolex Cables Ltd in the following article: Analysis: Finolex Cables Ltd

Thus we can see that the companies with SSGR higher than past sales growth are either debt-free or have reduced their debt significantly over the past. These companies are good investment candidates as they can keep growing without the need for debt and can face tough economic situations better.

 

B) If Self Sustainable Growth Rate (SSGR) is less than the sales growth shown by the company in the past:

Such a situation will indicate that the company’s business model does not have the inherent strength to sustain the growth rate it is trying to achieve. The company would continuously need to supplement its profits by bringing in additional cash from equity infusion or debt, to fund its growth aspirations. Most of such companies rely primarily on debt to meet the requirement of additional cash and thereby see high levels of debt on their balance sheets.

Let us see examples of a few companies that are growing at a rate higher than their self-sustainable growth rate (SSGR).

 

1) Rain Industries Ltd:

Rain Industries Ltd is the world’s second-largest manufacturer of calcined pet coke (CPC) and coal tar pitch (CTP) used primarily in aluminium production.

While analysing Rain Industries Ltd, an investor notices that the company has an SSGR of zero or negative whereas it has grown its sales by about 13-14% year on year for the last 10 years.

Rain Industries Ltd Self Sustainable Growth Rate SSGR

An investor would notice that Rain Industries Ltd has been growing its sales at a rate higher than its SSGR. As a result, the investor would appreciate that the business profits of the company are not able to sustain its growth aspirations. Therefore, an investor notices that Rain Industries Ltd has relied on debt to meet its growth requirements. As a result, the total debt of the company has increased from ₹3,178 cr in FY2010 to ₹7,845 cr in FY2019.

An investor may read our detailed analysis of Rain Industries Ltd in the following article: Analysis: Rain Industries Ltd

 

2) Kokuyo Camlin Ltd:

Kokuyo Camlin Ltd is a leading manufacturer of stationery & related products owning brands Camel and Camlin. The company is now a subsidiary of Kokuyo Co. Ltd of Japan.

An analysis of Kokuyo Camlin Ltd shows an investor that the SSGR of the company is negative i.e. its core business does not support any growth whereas the company has grown its sales at a rate of 5-7% over the last 10 years.

Kokuyo Camlin Ltd Self Sustainable Growth Rate SSGR

As the company is growing at a rate, which is higher than SSGR, the rate supported by its core business; therefore, Kokuyo Camlin Ltd had to rely on debt to meet the fund requirements for its sales growth. As a result, the total debt of the company has increased from ₹44 cr in FY2011 to ₹126 cr in FY2020.

An investor may read our detailed analysis of Kokuyo Camlin Ltd in the following article: Analysis: Kokuyo Camlin Ltd

 

3) Filatex India Ltd:

Filatex India Ltd is an Indian manufacturer of polyester, nylon & polypropylene multifilament yarn.

While analysing Filatex India Ltd, an investor notices that the company has an SSGR of 4-5% whereas it has grown its sales at a rate of about 20% year on year for the last 10 years.

Filatex India Ltd Self Sustainable Growth Rate SSGR

Filatex India Ltd is growing at a rate, which is higher than what its business profits can sustain; therefore, an investor would appreciate that it would have to fund its growth by raising additional money from debt or equity. Filatex India Ltd raised this additional money both by way of debt as well as equity.

Over the last 10 years, the total debt of Filatex India Ltd increased from ₹81 cr in FY2011 to ₹720 cr in FY2020. In addition, it raised about ₹100 cr from equity issuances in the last year so that it could make the investments needed for its sales growth aspirations.

An investor may read our detailed analysis of Filatex India Ltd in the following article: Analysis: Filatex India Ltd

We can see that for all these companies, which are trying to grow at a pace faster than their inherent Self Sustainable Growth Rate (SSGR), their debt levels are increasing in an attempt to provide funds needed to produce the excess growth. The debt-funded growth exposes the company and its shareholders to a high risk of reduced profitability and bankruptcy during tough economic situations.

 

C) Companies that have SSGR less than the current growth rate but still manage to reduce debt over the years.

Ideally, companies with Self Sustainable Growth Rate (SSGR) less than the current growth rate are expected to see high debt levels as seen in the above discussion. It is with the assumption that such companies do not generate sufficient funds from their profits to meet the requirements of growth. However, an investor would come across companies where despite low Self Sustainable Growth Rate (SSGR), the companies have reduced their debt levels.

In most of these companies, the investor would find that a combination of the following factors:

  • Companies improve their operating efficiencies as seen by inventory turnover ratio and receivables days over the years. It restricts the consumption of money in working capital when the business grows.
  • Companies report significantly high CFO than PAT over the last 10 years due to high depreciation, which makes CFO higher than PAT. This factor works in conjunction with the improving operating efficiencies discussed in the previous point.
  • Companies may have sold their assets to generate cash to repay debt. Funds raised from sales of the assets would appear as positive cash from CFI (cash flow from investing activities).

Let us see the example of a company, Heidelberg Cement India Ltd, which has reduced its debt despite a lower SSGR than its sales growth.

While analysing Heidelberg Cement India Ltd, an investor notices that the company has an SSGR of 0 to negative over the years whereas it grew its sales at a rate of 10% from ₹988 cr in FY2011 to ₹2,170 cr in FY2020. Still, the company managed to bring down its debt from ₹777 cr in FY2011 to ₹413 cr in FY2020.

Heidelberg Cement India Ltd SSGR Self Sustainable Growth Rate Inventory Turnover Receivables Days Of Sales Outstanding DSO

An investor notices that despite an SSGR lower than the sales growth rate, the company has reduced its debt from FY2011 (₹777 cr) to FY2020 (₹413 cr). When an investor analyses the financials of Heidelberg Cement India Ltd in further depth, then she comes across the following factors that have contributed to the reduction of debt.

  • Improvement in the operating efficiency as seen from the improvement in the inventory turnover ratio (ITR) and receivables days over the years. The ITR of the company increased from 6 in FY2012 to 14 in FY2020. The receivables days improved from 10 days in FY2012 to 4 days in FY2020. Such an improvement in the operating efficiency ratios ensures that a limited amount of money is consumed by working capital as the business grows.
  • The improving efficiency along with a high amount of depreciation, ₹792 cr over FY2011-2020 has ensured that the company had a high CFO than its PAT over the last 10-years. During FY2011-2020, the company had a CFO of ₹2,305 cr against a PAT of ₹812 cr. A CFO has helped the company report a free cash flow of ₹1,237 cr. after meeting a capital expenditure of ₹1,068 cr over the last 10 years (FY2011-2020). The free cash flow has helped the company reduce its debt from FY2011 (₹777 cr) to FY2020 (₹413 cr) and increase the cash & investments from ₹311 cr in FY2011 to ₹471 cr in FY2020.

An investor may read our complete analysis of Heidelberg Cement India Ltd in the following article: Analysis: Heidelberg Cement India Ltd.

 

D) If SSGR is similar to the current growth rate of the company

In such companies, the investor needs to see whether the entire profits are available for fixed asset creation or are being stuck in working capital. A simple test to find this out is by comparing the cumulative net profit after tax (cPAT) of the last 10 years with the cash flow from operations (cCFO) over the same period.

If cCFO, which factors in changes in the working capital, were significantly less than cPAT, then it would indicate that the company would not be able to maintain its current growth rate without raising additional funds and the company would need to raise additional cash by either equity or debt to fund its increased working capital needs along with growth.

On the contrary, if the company has its cCFO higher than its cPAT, then it means that the working capital position of the company is under control. As a result, the business profits generated by the company are available for the company to fund its growth. In such a case, it is highly probable that the company would be able to meet its growth requirements from its core business and may even reduce its debt over time by repaying some of its debt.

Let us see an example of a company that has an SSGR similar to its sales growth rate and how it could meet its growth requirement and repay some of its debt.

 

Supreme Industries Ltd:

Supreme Industries Ltd is a plastic goods manufacturer in India. The company manufactures plastic pipes, plastic furniture, cross-laminated films, protective packaging, composite LPG cylinders etc.

While analysing Supreme Industries Ltd, an investor notices that it has an SSGR of about 7-8%, which is almost similar to its sales growth rate of 7-9% over the last 10 years.

Supreme Industries Ltd Self Sustainable Growth Rate SSGR

As mentioned above, in such a case where SSGR and the sales growth are similar, then the investor should compare the cumulative profit after tax (cPAT) and cumulative cash flow from operations (cCFO) for the last 10 years to check if the business profits are available to the company as cash flow.

In the case of Supreme Industries Ltd, an investor notices that the company has cCFO of ₹4,215 cr over FY2011-2020, which is higher than its cPAT of ₹3,333 cr over the same period. It means that the working capital position of the company is under control and the business profits of the company are available with the company for meeting its growth requirements.

Therefore, an investor notices that Supreme Industries Ltd could grow at 7-9% over the last 10 years and also reduce its debt from ₹514 cr in FY2011 to ₹441 cr in FY2020.

 

Conclusion

We can see that the companies, which have high Self Sustainable Growth Rate (SSGR), are able to grow in a debt-free manner and provide good wealth creation opportunities for shareholders.

High Self Sustainable Growth Rate (SSGR) is dependent upon the below factors:

  1. High net profit margins (NPM)
  2. Low dividend payout ratio (DPR)
  3. Low depreciation (Dep)
  4. High net fixed asset turnover (NFAT)

Therefore, a company that currently has low Self Sustainable Growth Rate (SSGR), can improve its SSGR by:

  1. Improving its profitability (NPM) so that it generates higher funds by profits
  2. Reducing dividend payouts so that most of the profits are reinvested in the company’s operations
  3. Increase net fixed asset turnover (NFAT) by using better technology & processes so that it can produce more sales from the same amount of fixed assets.

I believe that an investor should invest in companies, which have nil or very low debt on their books. Such companies are easy to find by filtering all the stocks on debt to equity parameter. However, the ideal investments are the stocks, which can remain debt-free when they grow in future. The investor can find such stocks by analyzing the Self Sustainable Growth Rate (SSGR) during detailed analysis.

This brings us to the end of this article in which we learned about assessing the inherent growth capabilities of companies. We noticed that companies trying to grow at a higher rate than the Self Sustainable Growth Rate (SSGR) end up having a lot of debt on their balance sheet. Such companies expose the shareholders to high risk. On the other hand, if companies having Self Sustainable Growth Rate (SSGR) higher than the current growth rate, then they can keep on growing without raising debt and provide good long-term investment opportunities for investors.

 

Should we reject companies with debt straightaway?

From the above discussion, an investor would notice that debt-free companies i.e. those with nil debt come across as the ones with a good and stable financial position. However, it does not mean that an investor should reject any company, which has debt on its books straightaway even if other parameters show that it has a fundamentally sound business model. The answer is, No!

This is because when an investor studies the history of business growth of companies, then she may notice that the company has taken debt to expand its business. It might have taken debt not because its existing business operations are running into losses or it is not able to convert its profits into cash flow from operations. However, it might have taken additional debt as it came across good business opportunities before its existing operations could repay its existing debt.

Many times, a large capex may be a result of excellent investment opportunities available for the company in its business. As a result, the company may be striving to grow its business fast to capitalize on the available opportunities.

In our attempt to analyse all the companies listed on India stock exchanges, when we looked at the financial performance of more than 2,800 companies above a market capitalization of ₹10 cr, then we came across many companies which had grown their business significantly and as a result, at times, they invested more than what they produced by their cash flow from operations. As a result, they had a negative free cash flow. However, at the same time, these companies rewarded their shareholders by the way of a significant increase in their share price because they kept the debt levels within control and improved their business strength.

Read: What I learnt from brief analysis of 2,800 Companies

7) Many large companies keep rewarding shareholders by way of increase in stock market price despite nil or negative free cash flow:

During the analysis of many large companies, I noticed that the stock price of these companies had witnessed a significant increase over the last 10 years where these companies had nil or negative free cash flow. In many cases, these companies had resorted to funding this cash flow gap by taking additional debt. However, in almost all the cases, the debt raised was small and within easily serviceable limits.

An investor would appreciate that the final investment decision by any investor is a result of a combination of all the parameters like financial, business, management and valuation analysis. Therefore, even in the case of companies with debt on their books, if the investor notices that they have strong performance on other parameters and their debt level is under control, then she may look at these companies for investment instead of rejecting them straight away due to negative FCF.

However, it is important for the investor would appreciate that in every scenario, the debt should be within easily serviceable limits.

 

A Step-by-Step Manual Calculation of SSGR

As requested by many readers about the steps used by me for the arrival of the SSGR values in the data tables above, I have enlisted the steps below. To get the values of SSGR calculated by me, a reader would need to calculate:

  • NFAT =  Two steps
    • First, calculate the NFAT for any year = sales for the year/(average of NFA at the start and end of the year),
    • Then, take average NFAT for the preceding three years for putting into SSGR formula
  • NPM = Average NPM of preceding three years
  • DPR = Average DPR of preceding three years
  • Dep = Average level of Depreciation as % of NFA for the preceding three years

After putting these values in the SSGR formula a reader would get the values of SSGR calculated by me.

Let us calculate SSGR for FDC Ltd for FY2019 as per the below financial data:

FDC Ltd Self Sustainable Growth Rate SSGR Calculation

Now, let us calculate the parameters used for calculating SSGR for FY2019:

  1. NFAT = We need to take an average level of NFAT for the preceding three years. Therefore, to calculate SSGR for FY2019, we need to take an average of FY2017, FY2018, and FY2019.
    • First step: NFAT for any year = sales for the year/(average of NFA at the start and end of year). Please note that the net fixed assets (NFA) at the end of the previous year is the value of NFA at the start of the current year. i.e. NFAT for FY2017 = Sales for FY2017 / (average NFA at the start of FY2017 and end of FY2017)
      • NFAT for FY2017 = 1,013 / [(675+678)/2] = 1,013 / 676.5 = 1.50
      • NFAT for FY2018 = 1,074 / [(678+674)/2] = 1,074 / 676 = 1.59
      • NFAT for FY2019 = 1,089 / [(674+682)/2] = 1,089 / 678 = 1.61
    • Second step = Take average of NFAT for FY2017, FY2018 and FY2019 = (1.50+1.59+1.61) / 3 = 1.56
  2. NPM = We need to take the average level of NPM for the preceding three years. Therefore, to calculate SSGR for FY2019, we need to take the average of FY2017, FY2018, and FY2019.
    • NPM for FY2017 = 19%
    • NPM for FY2018 = 16%
    • NPM for FY2019 = 16%
    • Average NPM for FY2017, FY2018 and FY2019 = (19%+16%+16%) / 3 = 17%
  3. DPR = We need to take the average level of dividend payout ratio (DPR = Dividend for the year / Net Profit After Tax for the year) for the preceding three years. Therefore, to calculate SSGR for FY2019, we need to take an average of FY2017, FY2018, and FY2019.
    • DPR for FY2017 = 40 / 189 = 21%
    • DPR for FY2017 = 0 / 174 = 0%
    • DPR for FY2017 = 0 / 170 = 0%
    • Average DPR for FY2017, FY2018 and FY2019 = (21%+0%+0%) / 3 = 7%
  4. Dep = We need to take an average level of depreciation as % of NFA for the preceding three years. Therefore, to calculate SSGR for FY2019, we need to take an average of FY2017, FY2018, and FY2019.
    • Dep for FY2017 = 35 / 678 = 5%
    • Dep for FY2018 = 35 / 674 = 5%
    • Dep for FY2019 = 33 / 682 = 5%
    • Average Depreciation % for FY2017, FY2018 and FY2019 = (5%+5%+5%) / 3 = 5%
  5. SSGR = NFAT * NPM * (1-DPR) – Dep
    • = 1.56 * 17% * (1 – 7%) – 5% = 19.66%
  • Please note that during the manual calculation, we have used the data only up to two decimal points, whereas while calculating it in Excel by using formula linkages, the Excel uses data for nine decimal points. Therefore, there might be a minor difference in the manual calculation and the Excel output like in the above case, the manual calculation shows the SSGR as 19.66% whereas the Excel shows 19.326% (rounded off by Excel to 19% in the above table).
  • You may use either the percentage values of the decimal values. i.e. for NPM, you may use either 12% or 0.12. You need to keep in mind that if you use decimal values, then SSGR will be shown as 0.1966 instead of 19.66%.

Over time, readers have asked various queries related to multiple aspects of Self Sustainable Growth Rate (SSGR) including its similarities and differences with other popular ratios like Sustainable Growth Rate (SGR), return on equity (ROE), return on capital employed (ROCE) etc. I have compiled these queries and their responses below so that other readers can also benefit from them:

 

Readers’ Queries about Self-Sustainable Growth Rate (SSGR)

Difference between SSGR and SGR

Hi Dr Vijay, Is there any difference in SGR (sustainable growth rate) calculated by ROE x (1 – dividend-payout ratio) as described in Investopedia and Self-Sustainable Growth Rate (SSGR)?

Both give a similar assessment of companies operating efficiency and profit generation.

Author’s Response:

Hi, thanks for writing to me!

You would be able to appreciate the differences and similarities if you try to analyse the components of ROE and Self-Sustainable Growth Rate (SSGR). You may use the DuPont analysis for ROE and the components of SSGR detailed in the article above.

I suggest that you do the analysis and share your observations. I would be happy to provide my inputs on your observations.

Regards,

Follow Up Query

Dear Dr Vijay.

I have done the analysis of both Self-Sustainable Growth Rate (SSGR) and sustainable growth rate (SGR) for some of the companies and I have found there is differences in both the parameters in different combinations as we use different parameters to calculate it.

Some categories:

  • High SSGR with High SGR
  • High SSGR with low SGR
  • Both SSGR and SGR in the same levels
  • Low SSGR with high SGR

I personally feel Self-Sustainable Growth Rate (SSGR) give better reflection as it includes the NPM, Net asset, depreciation and dividend payout ratio (DPR) for calculations. I would like to hear your observations and opinions on this matter.

Author’s Response:

Hi, thanks for writing to me!

Finance is a very interesting field which allows any investor to be as creative as she wants and tweak existing ratios or create altogether new ratios and use them for stock analysis.

An investor may use any ratio as per her convenience and conviction.

SGR is derived from ROE and therefore its interpretation is more or less the same as ROE. An investor may use DuPont’s analysis to delve deeper into the understanding of ROE or similarly SGR.

You may read about my views on ROE in this article: Why Return on Equity (ROE) is not meaningful for Stock Market Investors!

I like Self-Sustainable Growth Rate (SSGR) from SGR as I believe that SSGR tells about the debt-free growth potential whereas SGR will tell about the growth while keeping the current capital structure (i.e. debt and equity mix).

ROE and SGR can be easily increased by increasing leverage.

Regarding many categories of comparative SSGR and SGR values, it’s great to know that you did the comparative analysis. Such analytical exercises provide good learning opportunities for investors.

All the best for your investing journey!

Regards,

 

Applicability of SSGR on Banks/NBFCs

Hello Dr Vijay,

I have really enjoyed reading your blog. You have great clarity in your thoughts and presentation. Many have only the former and hence are not great teachers.

Can you please clarify if it makes sense to compute SSGR for HFCs and other financial institutions with some tweaks or it does not? If we can tweak it, can you elaborate further? I tried replacing NFAT with Net Long Term Loans and using a Depreciation rate of zero. What are your thoughts?

Author’s Response:

Hi,

Thanks for your feedback & appreciation! I am happy that you found the articles useful!

SSGR is primarily useful for manufacturing companies and would not be very useful for sectors like financial institutions like Banks/NBFCs/HFCs. Further, to complicate the matters, the information shared in the annual report of financial institutions is not sufficient to assess their financial position, therefore, I do not attempt to tweak/adjust the SSGR to suit FIs.

I would suggest you proceed with your adjustments to SSGR formula with Net Long Term Loans and other such parameters and see the outputs to determine whether it is able to differentiate between good & poor performers in HFCs and other FIs.

All the best for your investing journey!

Regards,

Vijay

 

Difference between SSGR and ROCE

Hi doctor, Nice thought process. I think that Self-Sustainable Growth Rate (SSGR) is a modified version of return on capital employed (ROCE), a very helpful one though.

I generally prefer to invest in companies with high ROCE even if such a company is available at a bit high valuation. As far as there is a high difference between ROCE and cost of capital (CoC), one shouldn’t worry too much about the debt.

But I think with your SSGR model, one can easily analyse companies with moderate ROCE. Thank you for sharing this.

Author’s Response:

Hi, thanks for your inputs!

It depends on how you calculate ROCE. There are investors who use only PAT in numerator while calculating ROCE whereas, there are others who use EBIT in the numerator. Self-Sustainable Growth Rate (SSGR) on the other hand, does not add back interest in numerator at any stage.

Regards,

 

Do we prefer standalone or consolidated data for calculation of SSGR

Hi Sir,

Thanks for the very detailed writing on Self-Sustainable Growth Rate (SSGR) — a very powerful tool to be used for investing.

While trying to practice (based on Container Corporation of India Limited using Screener data), I have the following questions:

  1. SSGR is calculated using stand-alone instead of consolidated numbers? Any reason why we’re doing that.
  2. Dividend payout in screener comes as a percentage now. While comparing that with the data of Container Corporation of India in the SSGR article, it looks very different.

Would appreciate all your great effort to teach every investor. Looking forward.

Regards,

Author’s Response:

Hi,

Thanks for writing to me!

1) There is no specific reason for using standalone financials. SSGR works well for both standalone as well as consolidated financials. I would advise the investors to prefer using consolidated financials, wherever consolidated financials are available.

Standalone vs Consolidated Financials: A Complete Guide

2) You are right that the data of Container Corporation of India, currently shown by screener is different than what is reflecting in the above article. However, it is due to the update/change in the data presentation by Screener. The data used in the article is the data taken from screener in June 2015. Subsequently, Screener has undergone an overhaul from Aug 2015 to Feb 2016. I understand that it has undergone a lot of updations in terms of data collation and presentation. This might be a reason for a change in the current financial data of Container Corporation provided by screener from the past data.

How to Use Screener.in “Export to Excel” Tool

This is one of the reasons that I advise investors to use public sources of data only for preliminary analysis and use the data from annual reports for final analysis before making the investment decision.

Hope it clarifies your concern.

All the best for your investing journey!

Regards,

Vijay

 

A simplified understanding of SSGR

I tried to understand the formula. Kindly correct me if I am wrong.

The formula roughly translates into Fixed Assets – Depreciation + (Net Profits – Dividend Paid)/ Fixed Assets.

The crux of the formula is that if depreciation > (Net Profit – Dividend Paid), the company is bound to have a negative SSGR

Author’s Response:

Hi,

Thanks for writing to us!

You are right that the essence of the concept of SSGR and its formula is to compare the decline in fixed assets due to depreciation and then replenishment of fixed assets by retained earnings (PAT – dividend).

If the retained earnings are not able to replenish the impact of the reduction in fixed assets due to depreciation, then a year on year net fixed assets will decline and the company would show negative growth i.e. negative SSGR.

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr. Vijay Malik

 

What if the company decides to grow less than SSGR?

Dear Dr,

Let me thank you first for enamouring me with lots of confidence to analyze companies.

After gone through your explanation for SSGR, I have the following query. As per my interpretation, based on your above explanation, to achieve positive SSGR, or to have SSGR > sales, NFA should grow year on year and it should be funded through RE and not by debt. If my above understanding is right, I agree with the above explanation.

However, I observe, there are another 3 options to have SSGR > sales other than NFA to be increased year on year. If I have invested huge money in plant and machinery for the first year itself, why should I use my RE to build further capacity? If my profit increases year on year, my retained earnings too are going to be increased and obviously, it’s a liability and my liability kept on increasing. This increasing liability can be offset/compensated by another 3 ways other than increasing NFA.

  1. With increasing RE, I can offset by repaying the debt on the liability side itself.
  2. Or, the equivalent amount of increasing RE can be adjusted on ASSETS side, by increasing CA (Current assets) instead of NFA.
  3. That increasing CA can be either increasing inventory or increased “CASH POSITION”.

In addition to increasing NFA, to my understanding, as above, there are 3 more options available viz repaying debt, increasing inventory and increasing CASH.

If my understanding is right, then why do you harp only on increased NFA only? If my understanding is wrong, where am I making mistake, please?

Thank you so much, Dr, for providing me such clarity to my knowledge.

Regards

Author’s Response:

Hi,

Thanks for writing to us! We are happy to see that you are doing your own equity analysis and spending time and effort to understand different concepts.

SSGR indicates the ability/maximum growth rate with which a company can grow if it invests entire retained earnings into its fixed assets.

In reality, a company may or may not actually invest entire retained earnings into fixed assets. This is a management decision, which the company will take depending upon the market opportunity that it may predict going ahead. The management may decide to keep entire retained earnings as cash in the bank account.

An investor needs to understand the difference between the ability and the actual decision of the management.

A person may be able to lift 200kg of weight as per his/her physical power but may not decide to lift any weight at all. However, it helps to know that if the need arises, then the person can lift 200 kg weight. SSGR is the ability to lift the weight and not the actual weight that the person decides to lift.

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr. Vijay Malik

 

Clarifications about the calculation of SSGR

Dear Sir, I have tried calculating the Self-Sustainable Growth Rate (SSGR) of one company, but I am unable to get the correct value. For the time being, I have not taken an average of three years.

Could you please let me know where I am going wrong?

I have a few independent queries which I am not able to understand.

  1. What is the face value?
  2. What is share capital? Is it the (number of shares*face value) OR (number of shares*issue price)?
  3. If the sales of a company are greater than the market cap of a company, is it a good sign?

Sorry for too many questions (maybe basic).

Many thanks in advance.

Author’s Response:

Thanks for writing to me!

Relation of sales with market cap is used as a valuation parameter during stock research. You may read about this parameter as well as other such parameters in the following article:

How to do Valuation Analysis of a Company

You may calculate it using one-year figures or 3 years average as per your preference (the number of SSGR would be different as per your assumptions). There is no hard & fast rule to adhere to. I have elaborated on my step as an addendum in the article.

I would suggest you follow the steps and go ahead with SSGR results as per your preference and assumptions. It would be difficult for me to vet the calculations of readers individually.

Share Capital:

Issued & paid-up share capital is the number of shares*face value whereas the number of shares*issue price is equal to issued & paid-up share capital + amount in the securities premium account.

You may google for reading more about face value and share capital. You would find many good articles & resources to provide information for your queries. I prefer Investopedia.com.

Regards,

 

Should we use Dividend Payout after Dividend Distribution Tax?

Hi Vijay,

I am excited after reading your book “Peaceful Investing”. While reading through the section the SSGR section (page# 63),

Further Reading: Finding Self Sustainable Growth Rate (SSGR): a measure of Inherent Growth Potential of a Company

For the SSGR calculation examples provided for ‘FDC Limited’ and ‘Container Corporation of India Limited’, is the value ‘dividend payout’ adjusted for the tax on the dividend?

It was my assumption that the value is adjusted for tax on dividend since the dividend paid for a particular year in the annual report is different from the value specified in the pdf and if I subtract the tax on dividend I get the same value as in the pdf.

Can you please explain why we need to subtract the tax on dividend from the dividend paid? Please forgive me if my assumptions and calculations are totally wrong.

Hope you see my simple query and give a word on it.

Thanks

Author’s Response:

Hi,

The best thing about finance is that we may experiment with different ratios by tweaking the parameters as per our preferences.

Factoring in dividend distribution tax may have provided the investor with the value of retained earnings, which remain in the hands of the company for reinvesting after meeting all the statutory taxation obligations.

We advise investors to keep on changing the parameters of any ratio as per their preference and therefore come up with their own version of ratios, which they feel comfortable with.

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr. Vijay Malik

 

Comparison of SSGR vs ROI & ROCE

Hi Doctor.

You are doing a fantastic job and I can’t praise you enough for your brilliant service to the investor community.

Maintaining a blog all alone is not all an easy task and I know the toil it takes.

I have few questions, hope u consider them democratic and not a sign of rebellious or haughty! (I might be completely naive). All in an academic context!

1)

The central theme of your SSGR is “amount of funds available for reinvestment and then, the efficiency level with which these invested funds are utilized”

Is this not similar to Return on Capital? Can you let us know which meritorious aspects of SSGR (equity apart) would I be missing if I am simply using ROC/ROIC Capital instead of SSGR?

Especially the way SSGR includes Depreciation as a key factor which is almost nonexistent (compared to other balance sheet figures) in financial companies.

I am also sceptical about taking Net profit Margins rather than Operating Profit margin since you are already negating the effect of depreciation. Net profit margins do vary due to Exceptional losses and other income and outliers can easily distort the 3-year averages and even the 5-year ones

In addition, growing companies pay a minimal dividend and using SSGR with a dividend in the formula to measure growth is not self-serving.

So if a company is earning more than 35% on ROCE which in turn indicates the company is able to generate significant returns on the capital it is ploughing in, this itself is a good indicator which smoothens all the aspects as long as the Accounts receivable and debt levels are stable

2) 

Graham’s margin of safety concept, especially reluctance to accept anything over 11 PE levels does look quite out of sync with the modern times especially in easy money scenarios globally. Does it require a revisit to adapt the margin of safety as per bull and bear period rather than sticking with a margin of safety and missing a whole set of baggers?

Author’s Response:

Hi,

Thanks for your feedback & appreciation! I am happy that you found the articles useful!

I am happy that you have analyzed SSGR in detail and provided me as well as other readers with your inputs.

Your queries range from the comparison of SSGR & ROC/ROIC/ROCE, the applicability of SSGR in financial services companies, the margin of safety. Let’s try to address them one by one:

 

SSGR vs ROC/ROIC/ROCE:

There are many parameters, which are used by investors for measuring the attractiveness of businesses. ROE, ROC, ROCE, ROIC, ROA. All of them are different variants of measuring the ratio of profits a company generates utilizing its assets. These formulas use multiple variants of assets like total assets in ROA, only equity funded assets i.e. book value in ROE and other such variants. Similarly, there are multiple variants of profitability, which are used in such calculations: some use net profit after tax (PAT), some use profit before tax (PBT), some use earnings before interest but after-tax EBI which means EBIT*(1-T).

There are followers of each of the above-discussed parameter and then there are investors who do not like them. However, finance as a field is very versatile as it gives full freedom for investors to follow her own choice of parameters and also to make new parameters.

Therefore, I would not go into the debate that whether someone should use SSGR and discard all other parameters or whether SSGR serves the same purpose for investors which other parameters like ROC, ROCE, ROIC do.

SSGR tells us what is the growth rate, a company can sustain with current profitability, dividend policy and operating efficiency and lets an investor gauge whether the growth of the company is intrinsically funded or externally funded.

If I have to relate SSGR to any other conventional parameter, then I would probably place it much closer to free cash flow generation. Companies with high SSGR are majorly free cash generation (post capex) business and vice versa.

Also Read: Why Return on Equity (ROE) is not meaningful for Stock Market Investors!

SSGR is mainly suited for manufacturing companies and does not have much relevance to financial services companies as one of the cornerstones of SSGR, which is net fixed asset turnover ratio, does not have much relevance for financial services companies.

 

NPM vs OPM:

I prefer net profit margins post exceptional/one time/non-operating items, as most of the times these items are also derived from some impact related to operations only: like non-operating income can be the interest/dividend on investments done from past profits, profit on the sale of assets is also similarly derived from assets purchased out of funds earned in past, forex losses are part of operating environment etc.

Read: How to do Financial Analysis of a Company

I agree that such onetime/non-operating items may put ratios out of normal trend, which may not give a stable SSGR ratio year after year despite using average data of last 3 or 5 years. I personally do not believe in changing the SSGR formula in order to smoothen the earnings performance. I wish to get the output from SSGR as it is supposed to work and then interpret it. An investor might accept or reject its outcome. There are many other parameters to stock analysis other than SSGR, which are also very important. An investor can always give more weightage to other parameters as per her choice. Moreover, as I mentioned above: “finance as a field is very versatile as it gives full freedom for investors to follow her own choice of parameters and also to make new parameters”

Similar logic goes for using funds post dividend declaration. I stress on analysing SSGR while assuming the companies maintaining their current policies. High current dividend payout indicates that the company has a cushion to raise funds internally and increase growth rate. Companies which pay minimal dividend do not have this option. In effect, they do not have this cushion.

 

Margin of Safety:

I do not believe in changing the criteria of the margin of safety as per the market scenario. It is like shifting the goal post as per ones need. On the contrary, such habit is discouraged as it amounts to letting markets take charge of an investor’s investing philosophy. P/E ratio is one parameter of the margin of safety. Over the years, I have come across certain other parameters as well, which I consider that are akin to the margin of safety. SSGR is one of them. SSGR which is much higher than the current growth rate means that the company has the cushion of tolerating low profitability in future while maintaining current sales growth rate.

Therefore, an investor may use different parameters as the margin of safety as per her conviction. However, I am not in favour of changing the parameters as per market cycles. I believe that such changing approaches might lead to the investor getting stuck in overpriced stocks at the peak of the cycle, which is not the desired situation to be in.

Read: 3 Simple Ways to Assess “Margin of Safety”: The Cornerstone of StockInvesting

Hope it clarifies your query!

Regards,

Vijay

 

Use of net fixed assets instead of gross fixed assets for calculation of Self Sustainable Growth Rate (SSGR)

Hi Dr.

Thanks for being generous in sharing your knowledge. My question is a basic one.

Could you help me understand why you have taken Net fixed asset instead of gross?

Also, I was going through the illustration of FDC and Fiem, unable to tally the NFA number published in Screener. Does NFA = Gross block less accumulated depreciation? Is my understanding right? Else could you explain how you have arrived at NFA?

Author’s Response:

Hi,

Thanks for writing to me! I am happy that you found the article useful.

You are right that Net Fixed Assets/Net Block = Gross Block – Accumulated Depreciation.

The netblock has been used in SSGR calculation as I believe that netblock is the better representative of the value of fixed assets currently in use as it factors in wear & tear (by deducting depreciation) as well as maintenance capex done to reinstate wear & tear (addition of maintenance capex year on year). Using only gross block has the potential of inflating the value of assets underuse.

Screener website underwent maintenance update last year after which it has changed the classification of some of the balance sheet items for past years, especially previous to FY2012. The article on SSGR was written in June 2015 before the changes in the screener website took place. Therefore, you are noticing the difference in the data.

Hope it clarifies your queries!

All the best for your investing journey!

Regards,

Vijay

 

Use of CFO margin instead of NPM in the calculation of SSGR

Hi Sir,

I would like to understand one thing from you relating to the “SSGR” the topic, which you discussed with us on the “Peaceful Investing” workshop held in Mumbai.

Firstly, I must thank and congratulate you for coming up with the concept of self-sustainable growth rate (SSGR) and sharing it with us. As I have started using this in my analysis and I find it to be quite useful.

However, relating to the same I have one query or doubt in its calculation, which is currently:

NFAT*NPM*(1-DPR)-Depreciation

I just want to understand from you in the above formula what if we replace net profit margin (NPM) with cash flow from operation (CFO) margin to find our SSGR for our target companies.

The reason why I am asking you this is that CFO adds up all the non-cash items back to NPAT. Moreover, the money spent on working capital is also accounted for in CFO. Lastly, all the non-recurring expense or gains are also adjusted for in CFO.

Further advised reading: Understanding Cash Flow from Operations (CFO)

Therefore, why do we not use CFO margin instead of NPM for our calculation? This way I feel companies, which have an efficient working capital strategy will be highlighted and vice versa for non-efficient working capital management by the firms.

I am curious to understand this from you. I am not sure what the pros and cons it would result in by making this adjustment.

Thanks and Regards,

Author’s Response:

Hi,

Thanks for writing to us!

We prefer PAT as year on year CFO varies a lot and may not be the best parameter of profitability of the business for any particular year. We prefer to interpret CFO on a longer time horizon. Therefore, in our analysis, we check PAT and CFO separately by comparing them over 10 years.

We encourage investors to keep improving their formulas and check if it works for them. In case, you find that using CFO provides good results, then you may use the same.

All the best for your investing journey!

Regards,
Dr. Vijay Malik,

 

Impact of cash holding on SSGR

Dr Vijay, thank you for the details on SSGR. I read your article and readers’ questions, your responses. I have a question that couldn’t find answers to.

What is the impact of cash that company holding for years on SSGR? I think you are counting it in re-investable funds in the above explanation. However, if my understanding is correct it is not treated as a fixed asset so not considered in NFAT. Would the amount of cash distort the SSGR? How to interpret it in those cases.

Thanks.

Author’s Response:

Hi,

Thanks for writing to me with your inputs. I am happy that you have brought the point of cash holdings to the fore.

SSGR is an estimate of the growth rate, which the company can achieve without leveraging itself. Whether the company actually achieves or not, is dependent upon whether the company uses all the possible resources/levers in its business model or not.

If an investor analyses the derivation of SSGR calculation formula, then she would notice that SSGR uses the post dividend funds accruals (average of last 3 years) to extrapolate the potential sales growth, these funds can generate. If a company is maintaining high cash balances consistently year on year, then SSGR calculation will assume this as its current business model/strategy and use the non-operating income (interest on cash/FD) as its business revenue in the net profits, while calculating the potential of future growth rate.

Effectively, SSGR will reflect the future growth based on the funds’ utilization shown by the company over the last 3 years (if the investor uses an average of last 3 years for different parameters of SSGR). If the company keeps cash on its books, and FD return is less than the return this cash could earn, if invested in fixed assets, then the SSGR of the company would be lower to that extent.

Hope it clarifies your query!

Regards,

Vijay

 

Does declining SSGR mean declining Moat?

Dear Sir,

I have tried to analyze Coal India with the method of SSGR you described. Its SSGR is decreasing from 61% to 14%, does this mean the moat for coal India does not exist anymore. Also, it is being stated that the company has improved its operational efficiency which is not reflecting in the results. Any thoughts for this? Following is my calculations.

Author’s Response:

Hi,

Thanks for writing to me!

SSGR, as mentioned in its dedicated article, factors in the dividend payout ratio in its formula. As the dividend payout increases, the amount of money for reinvestment in the business decreases and as a result, the SSGR decreases.

You would notice that in recent years the govt. has been asking Coal India to pay a hefty dividend to meet its fiscal deficit targets. As a result, the money retained by Coal India is going down, which has led to a decrease in SSGR.

Regards,

Vijay

 

SSGR and dividends funded by debt for Granules India Ltd

Sir,

Again a wonderful analysis was done by you on Granules India. The issue of warrants, high promoter salary seriously hints at Promoter placing their interest much before the company. Obviously, we judge the promoter and the management based on the past only.

Read: Analysis: Granules India Limited

Still, a few doubts in general:

  1. In a very fast-growing company which has always been under expansion mode, change in turnover for the expansion it takes in the current year may be reflected after 2-3 years. And this overhang may continue if the company keeps on increasing its sales. Hence SSGR may not give the accurate picture? An exaggeration of this took place in Ahmednagar/ Metalyst Forgings but there the debt rose to 12X net profit and 4x Operating profit. In Granules India, it’s still 3x of Net profit and 1.5X operating profit.

Obviously, self-funded growth is remarkable, still, if a company feels that it can grow much more than that, obviously it will take debt. Please throw some light on this.

  1. Now coming to the debt-funded dividend part. When the company is taking debt @ 10% and it is confident that it would generate a return at multiple of that. Why punish the shareholder temporarily and not give them dividends when their debts are manageable.

Both these points – insufficient SSGR & debt-funded obviously puts the company in some grey zone. Without these, it would have been better. But still does it assures such grave red signals or just keeping the issues in check!!

Waiting for your reply sir.

Author’s Response:

Hi,

Thanks for writing to us. We are happy that you found the article useful.

1) We believe that whenever a company continuously keeps on doing debt-funded capex for expansion, then it becomes very difficult to assess the efficiency of utilization of past capex as the current/new capex will always keep bringing the efficiency parameters down and the management will always have the plausible explanation for poor efficiency performance saying that the future after 2-3 years would be bright.

Such a situation leads to the problems with capex utilization going undetected for long periods of time, which one fine day present negative surprises to shareholders.

You may read more about our thoughts on this issue in the following article:

Read: 3 Simple Ways to Assess “Margin of Safety”: The Cornerstone of Stock Investing

While analysing we focus on both the increasing debt levels as well as equity dilution as both result in the same outcome which is deteriorations of the existing position of the equity shareholder.

2) We believe that paying out dividends from debt proceeds, which have interest cost attached, in the hope that the company would be able to generate excess returns in future is not a good practice. In personal finance parlance, it is using future income today by overspending by taking leverage. We are not comfortable with such an approach when adopted by companies.

Read: Steps to Assess Management Quality before Buying Stocks (B)

However, as mentioned in the article, these are our views and we are only one of the participants in the vast market. Different market participants interpret the same information differently and this essentially is the reason for the continuation of trading when participants take opposite sides of buy/sell trade while accessing the same information.

Therefore, we appreciate that investors question the logic provided in the article and come up with their own interpretation of the information.

Hope it answers your concerns.

All the best for your investing journey!

Regards

 

A Rule of Thumb for Self-Sustainable Growth Rate (SSGR)

Good article!

I have a similar but simpler rule of thumb.

Over a period of years, a company should be able to increase book value at the same time reducing debt and if the debt is already zero then dividends should be increasing. This is probably not as deep as your formula but as a rule of thumb, it removes a large number of companies, which would also be removed using your formula.

In either case, the idea is the same – we want to find companies, which are generating enough cash that further capex is being internally funded and enough free cash flow (FCF) that shareholders are getting benefited.

Author’s Response:

Hi,

Thanks for your feedback and valuable inputs!

You are right that the rule of thumb described by you, has the potential of segregating “good” companies from a number of “not so good” companies.

All the best for your investing journey!

Regards,

Vijay

 

Increase in debt despite SSGR equal to Sales Growth

I did this study for Exide Industries Limited and I found that the Self Sustainable Growth Rate (SSGR) is almost equal to past sales growth. And yet the debt doubled last year. What justification can be given for that?

Since the inventory turnover has increased and also debtors turnover is stable the cash locked in working capital, we can say that working capital has been stable. And if you look at last 10 years capex (₹2682.35 cr) has been equal to free cash flow (FCF) of ₹2648.99 cr.

Can you please provide me with a gist of your calculation for Exide Industries Limited, so that I can confirm my learning’s?

Regards,

Author’s Response:

Hi,

Thanks for writing to us and sharing your views on Exide Industries Limited

Self-Sustainable Growth Rate (SSGR) is a tool, which tells us about long-term trends. We use the data of 3 years average of all the inputs, which are used to calculate SSGR. For assessing the reasons for debt increase for one year, we recommend using Fund Flow Analysis as described in the following article:

Further Reading: Fund Flow Analysis: The Ultimate Guide

Fund flow analysis will reveal the reasons for debt increase and where the funds got utilized.

Analysis of SSGR for Exide Industries Limited indicates that the company is growing in line with what its business model affords.

Further, the analysis of CFO and FCF indicates that the company has been able to meet entire capex requirements from its CFO and thereby has generated positive FCF.

The company has reduced its debt from ₹342 cr. in 2007 to ₹114 cr. in 2016 and has simultaneously paid dividends of about ₹1,125 cr. over the last 10 years.

Hope it answers your queries.

All the best for your investing journey!

Regards

Dr Vijay Malik

 

Your Turn:

I would like to know whether you use the sustainable growth rate as an investment criterion. If yes, then which parameters you use to find out the sustainable growth rates for companies. If no, then what are the other criteria you use to determine probabilities of consistent healthy growth in future? Your inputs would help the author and the other readers of the website; improve their understanding of stock analysis. You may write your inputs in the comments below or contact me.

P.S.

 

DISCLAIMER

  • The above discussion is only for educational purpose to help the readers improve their stock analysis skills. It is not a buy/sell/hold recommendation for the discussed stocks.
  • I am registered with SEBI as an Investment Adviser under SEBI (Investment Advisers) Regulations, 2013.
  • Currently, I do not own stocks of the companies mentioned above in my portfolio.

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8 thoughts on “Self Sustainable Growth Rate: Inherent Growth Potential of a Company

  1. Sir, We have calculated the SSGR of Welspun Corp for the last 9 Years i.e from 2014 – 2020 (Since the data in screener is available for 9 years).
    It is -3.447871366
    -7.590111792
    -7.388568984
    -8.885395737
    -7.602016307
    -9.796623923
    -1.947819
    respectively.
    The sales growth for the last 10 years is 3% approximately. The SSGR has grown in 2020 from (-9.7%) to (-1.9%). Sir, Do you think SSGR will grow or what is your analysis?

    • Hi Jeewan,
      We do not have any views on Welspun Corp. You may share your detailed analysis of the company with in-depth reading of all the available annual report, credit rating reports and peer analysis with us. We would be happy to provide our inputs to your analysis.
      Regards,
      Dr Vijay Malik

  2. Sir, what would it mean if a company has very high SSGR (>65%) but sales growth in last 3-5-7 years have been <10%. CFO for the last 10 years is less than Net Profit for the last 10 years and the difference between the two is a lot more than the debt paid.
    Case in point Bajaj Auto. I want to attach my analysis but don't know how to add my screenshot to the comment.

  3. Respected Dr,
    The SSGR formula is such a helpful tool since it deals with fixed assets also. How accurate are the answers when it comes to analysis banking sector firms or financial sector companies as they have very much less to do with fixed assets?

    • Hi Sowmiya,
      Thanks for your inputs.
      You are right that SSGR depends a lot on the fixed assets. In cases where fixed assets are not the primary determinants of revenue-generating potential of a company, fixed assets turnover ratio, as well as SSGR, do not provide highly relevant results. This is true primarily for all services companies like banking & finance as well as software/IT service companies.
      You may read our analysis of a few services companies where fixed asset turnover as well as SSGR are not found to be highly relevant:
      Analysis: Sonata Software Ltd
      Analysis: Just Dial Ltd

      As far as our views on banking & financial services companies are concerned, we request you to go through the following article:
      Can we Assess a Bank’s Financial Position from its Reported Financials
      Regards,
      Dr Vijay Malik

  4. Sir, Amazing Article.

    It is a little bit effort which I have to put to get SSGR. Since the screener website readily gives us ROCE.

    But I will try to do calculate the SSGR. But for that in the first step, how to know the fixed assets?

    Sir, is it ok if we take the fixed assets shown on the screener website?

    Please advise me.

    • Hi Jeevan,
      Thanks for writing to us!
      We use Screener data for all the inputs in SSGR calculation.
      We have provided a sample manual step-by-step calculation of SSGR in the above article as well as the algebraic derivation of the SSGR formula in the article.
      You may take help of these calculations to derive SSGR for any company.
      All the best for your investing journey!
      Regards,
      Dr Vijay Malik

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