Compound Annual Growth Rate

Compound Annual Growth Rate (CAGR) is the rate at which an investment grows annually over a specified period of time, assuming the profits are rEINvested at the end of each period. CAGR is a useful measure for evaluating the return on investment (ROI) because it provides a smoothed annual growth rate, eliminating the effects of volatility in periodic Returns.

The formula for calculating CAGR is:

CAGR = (Ending Value / Beginning Value)^(1 / Number of Years) – 1

Example 1: If an investment of $1,000 grows to $1,500 over 3 years, the CAGR can be calculated as follows:

  • Ending Value = $1,500
  • Beginning Value = $1,000
  • Number of Years = 3

CAGR = (1500 / 1000)^(1 / 3) – 1 = 0.1447 or 14.47%

Example 2: If a company’s Revenue increases from $2 million to $3 million over 5 years:

  • Ending Value = $3,000,000
  • Beginning Value = $2,000,000
  • Number of Years = 5

CAGR = (3000000 / 2000000)^(1 / 5) – 1 = 0.0953 or 9.53%

Case Study: An investor in a tech startup invests $10,000, which grows to $40,000 over 4 years. To find the CAGR:

  • Ending Value = $40,000
  • Beginning Value = $10,000
  • Number of Years = 4

CAGR = (40000 / 10000)^(1 / 4) – 1 = 0.245 or 24.5%