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Revenue growth and CAGR: how to calculate it without mistakes

How to calculate the compound annual growth rate (CAGR) of revenue, where to find the figures in an annual report, usual thresholds by profile, organic growth and traps.

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Definition

Revenue growth measures how a company’s sales increase over a period. Over several years, it is summed up by the compound annual growth rate, or CAGR: the constant rate which, applied every year, leads from the first figure to the last. It is the first sign that a business is finding new customers or charging more.

Formula

CAGR = (revenue of the last year / revenue of the first year) to the power of (1 / number of years) − 1

Where to find it in an annual report

Revenue is at the top of the income statement, sometimes under the name of sales or turnover. The management report often gives organic growth, at constant scope and exchange rates, which removes the effect of acquisitions, disposals and currencies.

Common thresholds

Long-term quality: 8% a year or more over 5 years for green, 4 to 8% for orange. Reasonable growth: 15% a year or more over 3 years for green, 8 to 15% for orange. A mature company in a stable sector often grows by 3 to 6% a year, barely more than inflation.

In the preset strategies

Preset strategy Criterion met To monitor Criterion not met
Long-term quality Revenue growth (annual average over 5 years) ≥ 8% 4% to 8% < 4%
Reasonable growth Revenue growth (annual average over 3 years) ≥ 15% 8% to 15% < 8%

Pitfalls

  • Growth achieved through acquisitions is not worth the same as organic growth: compare the two when the report separates them.
  • Exchange rate effects inflate or reduce the growth of a company that bills in several currencies.
  • The simple average of annual rates overstates growth when they vary a lot: use the CAGR.
  • Revenue growth without higher margins can hide price cuts made to win market share.

Where it does not apply

  • Banks and insurers: revenue takes another form there (net banking income, premiums), to be compared only between companies in the same sector.
  • Commodity trading: revenue mostly follows commodity prices, not the business.

A worked example

A fictitious company, called Company G here, grew from €500 million to €735 million of revenue in five years. Its CAGR is (735 / 500) to the power of (1 / 5) − 1, or 8% a year.

CAGR or simple average

Take another fictitious company whose revenue goes from 100 to 150 (+50%), then falls back to 90 (−40%). The simple average of the two rates gives +5% a year. Yet the company is billing less than at the start: its CAGR is (90 / 100) to the power of (1 / 2) − 1, or about −5% a year. That is why the preset strategies mean the CAGR when they speak of an annual average.

The period chosen matters

A CAGR depends heavily on its two reference years. Starting from a crisis year gives a flattering rate, starting from a peak gives a disappointing one. The same calculation is used for EPS and for the dividend.

Sources