By guest author Pamela N. Danziger, Contributer to Forbes
“While retail continues to evolve and adapt to changing consumer preferences and new technologies, it is increasingly critical to develop newer, more relevant metrics to accurately value and measure retailers,” says Matthew Shay, president NationalGetty
Much is written and discussed about the need for a new way to measure retail success. Most everyone agrees with Matthew Shay, president of the National Retail Federation, that traditional retail metrics are ineffective in counting and quantifying success in our omnichannel world.
“While retail continues to evolve and adapt to changing consumer preferences and new technologies, it is increasingly critical to develop newer, more relevant metrics to accurately value and measure retailers. The current suite of metrics were built for a time that no longer exists,” Shay affirms.
Deloitte has done more than just talk about it. The firm has proposed a new retail metrics model in a report entitled “The Future of Retail Metrics: Measuring Success in a Shifting Marketplace.”
Whether traditional metrics (e.g. sales-per-square-foot and same-store sales) fail because of new channels of distribution or new retail business models, Rodney Sides, Deloitte vice chairman and U.S. leader in retail and distribution, says that what every retailer needs to measure and report to stakeholders is how they create value for the customer and the investor.
“When you think about a retail enterprise, each of them creates value in different ways. But different retailers at different stages of growth under different business models are not held to the same standards,” Sides shared with me. “We saw the need to level the playing field so we can objectively evaluate the profit thesis of each. So we decided to focus on value and measure how each creates value.”
Sides and his team proposed a new retail metrics model to answer what is lacking in traditional retail metrics that measure different types of retailers according to different standards. They arrived at a model based upon five key metrics, some that are common in the industry, like revenue-growth, free-cash-flow and invested-capital, and others that provide a new yardstick to measure how value is created for the customer, specifically retail-profit-per-transaction and sales-per-unique-customer.
“We hold traditional brick-and-mortar retailers to one standard, which is profitability and growth. But we’re not necessarily holding start-up companies to the same standards,” Sides says. “The big challenge is how to measure in such a way that lets investors or stakeholders understand where to place their bets.”
Here’s how the new value-based retail metrics model levels the playing field:
This metric replaces the traditional retail measure of product margins which fail for retailers that operate under a subscription/membership model where a large portion of profit derives from membership revenue, not product sales. It also fails for marketplace platforms that may never take possession of a product, like Amazon or Alibaba. These retailers are basically selling the platform, not products.
“Some online players, for example, don’t make any margin or even negative margin on the products they sell because they are making money in other ways,” Sides explains.
“We needed to strip out all the other revenue streams, like subscriptions, credit card revenues, advertising revenues on websites and all the other ways that retailers are essentially monetizing their assets as a business and get down to how much people are actually making on the products they sell. That is how we arrived at this notion of retail-profit-per-transaction,” Sides says.
“We’re trying to understand how a retailer makes money either by taking margin on each product sold or basically giving away the product and selling other services around it,” he adds.
This measure helps retailers get to the lifetime value of a customer. It measures how much wallet share retailers can drive across their customer base, whether it is through multiple purchases per year or less frequent big purchases.
“Some retailers spend a lot to attract new customers and others want to create an intimate relationship with them so they may not chase as many customers, but aim to get a bigger share of wallet,” Sides explains.
Sales-per-unique-customer lets retailers assess the effectiveness of their marketing, either to bring in lots of new customers and make sales or to go deep and be customers’ first choice.
These two measures – retail-profit-per-transaction and sales-per-unique-customer –measure the value creation side of the retail business. “These measures may take a little time to tease out but the retail community really needs to focus on how they create value for the customer and be able to measure and report it using common standards,” he shares.
“In every survey we’ve done in the last three or so years, customers say they look for price, product, and choice as the most important elements. But it all comes down to convenience. They don’t care what kind of retailer you are, just that they get what they want when they want it. Convenience is the true currency of retail today,” Sides says.
Enterprise value measures revenue growth, return on invested capital (ROIC) and free-case flow (FCF)
The other three retail metrics in Deloitte’s formula are more traditional measures. With different revenue streams, such as memberships, advertising revenues and others, pushed over to this side of the equation, retailers can more effectively assess how their core retailing and ancillary models are growing across the varied operations and revenue streams.
“ROIC is fairly standard for everybody, regardless where they are on their trajectory from a startup to a mature retailer. And FCF is also very important to investors, not just from a dividend perspective, but how much cash is available to grow and redeploy,” Sides says.
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What is essential is helping business leaders, investors and stakeholders understand how retailers are creating customer value and then how they are capturing, sustaining and growing that value.
“We believe these five metrics give a good balanced view,” Sides says. “It may be difficult for one retailer to excel across all five metrics. For example, a traditional brick-and-mortar retailer may not stack up as well on some measures because they have a lot of infrastructure to support. And another, like Amazon or a membership-model like Costco, get benefits from other revenue streams.”
“We talked with several clients about this and didn’t find anybody who thought they excelled at all five,” he continues. “The lines of business, whether a traditional large-format brick-and-mortar retailer, digitally-direct native company or an online-focused marketplace like Amazon, dictated which of the five they were really good at. But what was essential is we gave them the tools to compare across those models.”
Sides goes on to call on retailers to adopt this more accurate way of measuring and tracking retail performance based on measuring and communicating their full value proposition as a business.
“Our long-term aspirational goal is for the retail community to adopt this model so that we can compare and contrast different retailers’ performance. The problem is there are so many revenue streams buried in their disclosures. It’s hard for an investor to figure it all out,” he says.
“We believe it is important for executives to answer proactively in investor calls and in their filings what profits they bring in per transaction and how they measure success in new customer acquisition,” Sides concludes. “These value-creation metrics, combined with revenue growth, free-cash-flow and return-on-invested-capital, give us a better way to analyse any retail business. Everyone needs to start asking questions about the retail profit thesis and get to this level of detail. Every retailer needs to be held to the same standards.”