Earnings Growth

Earnings growth is a key indicator for measuring a company's success and the driving force behind stock price appreciation. Put simply, earnings growth is the percentage gain in net income over time. Thus if a company earns $1.00 in the second quarter of year 1 and $1.15 in the second quarter of year 2, earnings growth was 15%. For multiyear periods, earnings growth is usually compounded; thus you may read "the company's 5-year compound annual earnings growth rate was 8%". Earnings growth in a new, start-up company can be misleading: if a company earns $1 in year 1 and $2 in year 2, earnings growth may be 100%, but it still is only $1. Ignoring this anomaly, however, it may be said that investors are especially enamored of companies whose earnings growth is at "double-digit" (10%-plus) levels and, equally important, whose earnings growth is accelerating. On the other hand, earnings growth in mature firms will be at a lower, more constant level, and investors will ordinarily demand more in dividends to compensate for the reduced prospects of capital appreciation.

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