The following article provides brief and concise information on the relationship between investments and depreciation in perpetual retirement.
Determinants of sustainable growth rate
Monetary policy requirements, industrial forecasts and long-term growth rates of comparable companies, taking into account the individual circumstances of the valuation object, provide initial important clues here. However, in order to determine the sustainable growth rate in concrete terms, the evaluator should always assess the following determinants of sustainable profit growth.
- Volume growth: What expansion of sales volumes can the company achieve in the long term?
- Price-setting margin: What options does the company have to pursue an autonomous pricing policy and continue to increase costs to its customers?
- Production efficiency: How can the company shape the long-term relationship between production factors used and the quantity sold?
The growth of profit is the result of all of these determinants, and can therefore be derived from all or only from some of these determinants. A negative development of individual effects can be compensated by others, as outlined below.
Perspective: short and medium term vs. long term
In the short term, all three influencing factors are strongly determined by the current state of the company and the immediate options for action taken by management. In the medium term, management's strategic influence is becoming more important, whether through investment decisions, changes in sales strategy or new product developments. However, both short and medium-term measures are regularly included in the detailed planning phase and are therefore less relevant when determining the sustainable growth rate.
In the long term, the determinants of sustainable growth are generally influenced by the market in which the company operates and the competitive structure. In young markets, there is often scope for business expansion and aggressive pricing policies. Rising purchase prices can usually be passed on; production efficiency is not yet a central aspect of corporate management. In mature markets, volume growth is mostly only possible at the expense of competitors and is often accompanied by a more cautious pricing policy. Competitive structures are frequently consolidated, and production efficiency is typically the central success factor here.
Determining the sustainable growth rate
Consciously or unconsciously, the determination of the sustainable growth rate always includes positioning the valuer for sustainable volume growth, pricing flexibility and increasing the production efficiency of the valuation object. If the evaluator is not easily able to make a determination due to a lack of market data, it is always advisable to take a position that is as neutral as possible.
This can consist of not accepting any growth in volume and no increase in production efficiency. It is then also advisable to assume an average pricing margin. A good indicator under these assumptions is general inflation expectations. There is no volume effect per se and the implicit price effect is in the “middle of the economy.”