What Are Growth Rates?
Growth rates represent the percentage change of a specific variable within a designated time frame. They can denote increases or decreases and were initially used by biologists to study population dynamics. Today, they are pivotal in analyzing economic performance, corporate management, and investment returns. Growth rates typically illustrate the compounded annualized growth of investments, or a company’s revenues, earnings, or dividends. They also have macroeconomic applications, such as in measuring GDP and unemployment.
Key Takeaways
- Growth rates indicate the annual percentage change in a variable.
- Positive growth rates signal increases, while negative rates indicate decreases.
- Growth rates help evaluate company performance and predict future trends.
- Calculated by dividing the difference between starting and ending values by the starting value.
- Time periods for growth rates can vary: annually, quarterly, monthly, or weekly.
Understanding Growth Rates
At their core, growth rates express yearly percentage changes in variables. For instance, an economy’s growth rate reflects the annualized change in GDP, indicating either recession or expansion based on whether GDP declines or grows consecutively over quarters.
How to Calculate Growth Rates
The basic formula for growth rates divides the difference between the ending and starting values by the beginning value (EV-BV/BV). Here’s how to compute economic growth for GDP:
Economic Growth = \frac{GDP_2 - GDP_1}{GDP_1}
Compound Annual Growth Rate (CAGR)
The Compound Annual Growth Rate (CAGR) reflects the steady annual progression by assuming reinvestment of profits. The formula for CAGR is:
CAGR= \left ( \frac{EV}{BV} \right ) ^{\frac{1}{n}}-1
Where EV is the Ending Value, BV is the Beginning Value, and n is the Number of Years.
Dividend Growth and Securities Valuation
Financial theories, such as the Dividend Discount Model (DDM) and Gordon Growth Model (GGM), utilize dividend growth rates to appraise a stock’s intrinsic value. These models necessitate a positive growth rate as companies aim to enhance dividend payouts regularly.
Using Growth Rates
Company and Investment Growth Rates
Analysts, investors, and management rely on growth rates to gauge company performance across various metrics like earnings, sales, or cash flows. Public companies typically highlight growth rates when reporting earnings. Investors compute returns, often adjusted for taxes and inflation, to estimate true growth.
Example: Amazons Revenue Growth
Amazon reported a 30.93% revenue growth from $177.9 billion in 2017 to $232.89 billion in 2018. Its earnings soared from $3.03 billion to $10.07 billion, marking a 232% growth.
Industry Growth Rates
Industries have unique benchmark growth rates. For instance, tech sectors see higher growth rates due to rapid innovation relative to mature sectors like retail. Historical growth rates can help forecast future growth, though cyclical economic conditions play a role.
Case Study: Irelands Retail Growth
In Q2 2016, Ireland’s retail sales stagnated, attributed to factors like domestic political instability and Brexit implications outlined unique industry challenges with fashion lagging behind sectors like agriculture.
Example of a Growth Rate
Comparing GDP growth between two countries can be enlightening:
Country A (Developed)
- Year 1: $1.20 trillion
- Year 2: $1.26 trillion (5.0% growth from Year 1)
- Year 3: $1.29 trillion (2.4% growth from Year 2)
Country B (Developing)
- Year 1: $20 billion
- Year 2: $25 billion (25.0% growth from Year 1)
- Year 3: $35 billion (40.0% growth from Year 2)
CAGR
- Country A: 3.68%
- Country B: 32.29%
While Country B’s growth rate is higher, Country A’s absolute GDP remains significantly larger.
Limitations of Growth Rates
Growth rates provide critical insights but have limitations:
- Volatility: They don’t reveal intra-period movements.
- Nominal Amounts Ignored: Larger nominal changes at lower rates can be more impactful.
- Comparability: Difficult to cross-compare different sectors.
FAQs on Growth Rates
How to Calculate GDP Growth Rate?
GDP growth rate = [(Current GDP - Prior GDP) / Prior GDP]. Real GDP considers inflation.
What is a Normal Growth Rate for a Company?
Normal rates depend on factors like industry, age of the company, and economic conditions. Generally, rates exceeding nominal GDP growth and inflation are considered healthy.
What Growth Rate is Good for a Startup?
High-tech startups may aim for 5%-7% weekly revenue growth, with exceptional rates around 10% weekly.
Calculating Growth Rate in Excel
In Excel, input beginning values, ending values, and periods to calculate growth. Recent versions feature built-in RoR functions like RRI.
Population Growth Rate Calculation
Subtract previous population size from current size, then divide by previous size. Multiply by 100 for percentage.
The Bottom Line
Growth rates measure the speed at which variables grow or decline, proving essential for economists, company leaders, and investors. While simple to calculate, understanding their nuanced implications can drive strategic planning and informed decision-making.
Related Terms: annualized rate, GDP, CAGR, dividend growth, rate of return, recession.
References
- Amazon. “2018 Amazon Annual Report”, Page 17 (Page 25 of PDF).
- Grant Thornton. “Grant Thornton REI Irish Retail Industry Productivity Review Q2 2016”.
- Paul Graham (of Y Combinator). “Startup = Growth”.
