Compound Annual Growth Rate (CAGR)
Compound annual growth rate (CAGR) is a measure of the mean annual growth rate of an investment over a specified time period. It measures the growth rate effecting the value of the initial investment to that of the end-of-period investment, with the assumption that over that time period the investment has been compounding.
While CAGR isn’t a true return rate, it is a representational figure used to understand an investment’s returns and is considered a better measure of return over time. The effects of compounding are ignored by the average annual return figures, which can overestimate an investment’s growth. By contrast, CAGR uses a geometric average to represent the consistent rate at which, if compounding had occurred at the same annual rate, the investment would have grown.
The formula for CAGR is:
CAGR = (EV / BV)^(1 / n) - 1
where:
- EV = Investment's end-of-period value
- BV = Investment's beginning value
- n = Number of periods (months, years, etc.)
As an example, if an investment of £2,000 is made for six years, with year-end values of the investment as follows:
- Year 1: £1,500
- Year 2: £2,000
- Year 3: £6,000
- Year 4: £8,000
- Year 5: £10,000
- Year 6: £12,000
The CAGR is: (12,000 / 2,000)^(1/6) – 1 = 0.348 = 34.8%
As it is a simple metric, CAGR is also flexible and can be used in a variety of ways, for example, comparing investments of different types, or tracking the performance of various measures alongside one another.
However, it should be used with other metrics to give a representative overall picture as it does have some limitations. For instance, it ignores volatility and implies that growth over the time period was steady, whereas in reality growth can be higher or lower from one year to the next. In addition, CAGR does not predict that the investment will continue to grow at the same rate, as it is only a historical metric. Many other factors might affect the rate of growth in future years.
[edit] Find out more
[edit] Related articles on Designing Buildings Wiki
- Accounting.
- Base year.
- Cash flow.
- Cost engineering.
- Cost performance index (CPI).
- Cost-benefit analysis in construction.
- Discounting.
- Gross value added (GVA).
- Internal rate of return.
- Net Present Value.
- Profitability.
- Residual value.
- Turnover.
- Yield.
[edit] External resources
- Investopedia - CAGR
Featured articles and news
Open industry engagement survey seeks responses
Institutions and the importance of engagement.
National Retrofit Hub unveils new guide
Digital Building Logbooks and Retrofit: An Introduction.
Top 50 firms awarded 52bn of projects in the last year
New engineering data shows.
Enhancing construction site reporting efficiency
Through digitisation and the digital revolution.
Noise in the built environment
BSRIA guide TG 20/2021.
17,000 people suffer conditions as a result of exposure to excessive noise at work.
Turning down the noise: Auditory health
A pervasive risk with far-reaching consequences.
Getting the most out of heat pumps and heating
How heat pumps work and how they work best.
Plumbing and heating for successful retrofit and renovation
Low temperature underfloor systems and heat pumps.
Cost-of-living crisis and home improvement plans
Starting on the right footing and top tips for projects.
Delays on construction projects
Types, mitigation and the acceleration of works.
From Chaucer to Fawlty Towers.
Electrotechnical excellence, now open for entries.
Net zero electricity grids BSRIA guide NZG 5/2024
Outlining the changes needed to transition to net zero.
CIOB Global Student Challenge 2024
Universitas Indonesia wins for second year running.
ECA 2024 Apprentice of the Year Award
Entries open for submission until May 31.