Topline vs BottomLine Growth - what is a better indicator? Investment Basics)

Topline vs Bottom Line Growth

(Anticipated) Growth of a company is an extremely important parameter in deciding the valuation of the company's stock. When a company grows, there are however various parameters which 'grow' when a company 'grows'. Among the most important of these are
  1. Growth of a company's sales - This is called as Topline Growth for the simple reason that in accounting the sales of a company are written on the first line 'top line'.
  2. Growth of company's net profit - This is called as Bottomline Growth, for the simple reason that Net profit of a company is written at the bottom, after writing figures of sales, expenditures, revenues, interest, depreciation, tax, etc.

Topline vs bottomline - simple example

Topline growth, or growth in sales represents the potential for the business to grow. Bottomline growth or growth in net profit, however can be caused either by increase in sales, or decrease in expenditure/raw material or various combinations including exceptional items (i.e. items which are one-time expenditures/income). Let us take the example of a steel company. If its sales grow by 25%, then topline growth is 25%. It show that the demand for steel, the basic output of that company is growing by 25%. However, it could happen that at the same time, prices for raw material, in this case coal or iron ore also go up by 15%. Other factors remaining same, the increase in net profit will be much less than 25%.

What number to look at while analyzing a stock - topline or bototmline ?

As far as getting an idea of how the company is growing, i think it is a good idea to look at topline growth. Various factors which come into play while calculating bottomline growth (e.g. raw material costs, etc.) are also important, but in my experience i have found it very convenient to analyze them by looking at financial ratios like operating profit margins (or ebitda margins) or net profit margins.

Jun 11, 2010

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