After mergers and acquisitions, currency translations, and year-to-year revenue growth numbers have been removed, organic revenue growth can be analyzed from an operational perspective. The most common breakdown is: Revenues = (Revenue/Units) * Units.
The operating statistics a company chooses to provide are typically dependent on industry norms and/or competitive best practices. By relating different operating statistics to total revenues, we can garner deeper insights into the business. Let’s compare Home Depot vs. Lowe’s. In this example, Units would be stores: Revenues = (Revenue/Stores) * Stores.
To further analyze the growth we can utilize a ratio tree, which unlike viewing typical operating ratios, ratio trees allow us to see how ratios change over time, as well as how they relate to other ratios. At Home Depot, store-based revenues increased by 6.2% in 2012, while Lowe’s revenues were relatively flat within the same year. In spite of Lowe’s opening nine new stores (versus four new Home Depot stores), Home Depot managed to have a 6% increase in revenue per store. What the data tells us is that Lowe’s growth strategy for 2012 was driven by adding new stores, while on the other hand, Home Depot’s was driven by focusing on increasing its dollars per square footage and the dollars per transaction.
Honing in on the growth within stores is extremely important, so much so that they have earned a name within the financial industry affectionately coined as “comps.” Comps compare the degree of revenue growth or decline that a firm’s stores achieve relative to their sales in previous years. Why is this important?
- Deciding on the number of stores to open is an investment decision, while on the other hand, same-store sales reflect a stores ability to compete in a local market.
- Opening new stores requires significant capital investment, whereas growth in comps requires little incremental capital. Higher revenue and less capital leads to higher capital turnover, which leads to higher ROIC.