DEFINITION of Price/Growth Flow

Price-Growth Flow is a financial metric that identifies companies producing solid earnings and making hefty investments in research and development (R&D). It is measured using the following formula: 

Price-Growth Flow=EPS+R & D Per SharePrice Per Sharewhere:EPS=earnings per share\begin{aligned} &\text{Price-Growth Flow} = \frac{ \text{EPS} + \text{R \& D Per Share} }{ \text{Price Per Share} } \\ &\textbf{where:} \\ &\text{EPS} = \text{earnings per share} \\ \end{aligned}Price-Growth Flow=Price Per ShareEPS+R & D Per Sharewhere:EPS=earnings per share

BREAKING DOWN Price/Growth Flow

Price-Growth flow is an expression of earnings power and potential growth against the current price per share. Analysts look at the metric for a window into a company's capital allocation structure. For example, management may spend more on developing new products and services than on current profit centers. The thought is that low earnings can be compensated with greater R&D spending and vice versa. If a company decides to spend on today and neglect the future, current earnings per share may exceed R&D spending. Both cases result in a high reading of the ratio, meaning solid earnings per share or R&D spending. That way investors can evaluate potential earnings growth now and in the future.

But price-growth flow isn't telling of how effectively management allocates capital. A large R&D bill, for instance, does not guarantee new product launches or market implementations will generate profits in future quarters. Meanwhile, robust earnings growth fails to give investors insight into future prospects or growth opportunities. An optimal ratio is one which strikes a balance between earnings and R&D without tilting entirely to one metric. In the case that price-growth flow records a low reading, it tells investors that price deviated well beyond fundamentals. In short, market activity is being driven by something other than current earnings growth or potential innovation. It could be political, economic or something completely unrelated driving day to day movement. In that case, investors would be wise to monitor the news cycle, economic data or other financial metrics like price-to-sales and price-to-book. 

Other Types of Financial Ratios 

Price-growth flow is a popular method of measuring current and future earnings power, but in some cases, other financial metrics provide more clarity into a company's fundamentals or stock price. They include price-to-sales which compare a full year of revenue to market capitalization and price-to-book, a measure of a stock's market value to its book value. Both metrics compare a specific line item on the balance sheet or income statement to the stock market's value. Investors toy with various financial ratios when assessing the growth prospects of an industry or single stock. For example, price-to-book is widely considered an accurate valuation tool for the financial industry, since the stock price of banks and financial institutions rarely deviate from its book value.