Definition:
Year-on-year (YOY) is a method used in comparing time series data per annum. It is a technique of evaluating two or more measured events to compare the results of one year with that of a comparable year in the past.
This method is an effective way to evaluate a company’s financial performance. The investors understand a company’s financial performance using year on year reporting as it helps them understand related financial insights/metrics. This comparison can be made on any measurable event that repeats annually.
Further, YOY is a technique that is used to compare the performance of one-time year and the previous. Similarly, the comparison can also be made for the selected period. For instance, third-quarter earnings this year vs. third-quarter earnings the year before.
This technique is commonly used to compare a company’s growth in profits or revenue. Likewise, it can also be used to explain the yearly changes in an economy and other measurements like GDP, Inflation and purchasing power etc.
Elements of financial statement
The calculation for a year on year change/year on year growth formula
YOY calculations are not complex and are usually expressed in percentage terms which involves taking the current year’s value and dividing it by the prior year’s value, and subtracting one:
YOY= (this year) ÷ (last year) – 1.
Benefits of year-on-year comparison:
Year-on-year comparison helps in the cross-comparison for sets of data. Using this technique, an investor can compare revenue and other data to quickly estimate whether a company’s revenue is increasing or decreasing. In fact, it’s one of the widely used tools when it comes to financial analysis.
Especially auditors, economic analysts, and other professionals use this technique when analyzing companies/countries and their overall economic situation.
Year-on-year comparison example
For instance, the YOY comparison finds that the GDP of Japan grew 2% in 2016 compared to 2015, while analysts previously only projected an increase of 1.8%. So, this metric is “a comparison of a company’s current earnings or other financial performance with the same data for the prior year.”
YOY analysis shows that we are comparing financial data for the current year to that of the previous year. This analysis is a popular tool for evaluating a company’s performance; when comparing a company’s performance against its performance in the past, the ideal goal of using YOY is to get valuable and informative insights. However, the problem with this approach is that performance analysis is often complicated and to draw out valuable data, one has to subtract the influence of various factors.
The data obtained by YOY can also assist in limiting one of the most confounding variables for companies: seasonality.
The advantages of using year-on-year comparison:
The advantages of YOY comparison include but are not limited to the followings:
- Seasonality: One of the biggest advantages of YOY is that it minimizes the effect of seasonality. The YOY comparison may also be useful in analyzing monthly revenue growth, especially when the sources of revenue are cyclical. This allows an apple-to-apple comparison of revenue instead of comparing revenue month-over-month where there may be large seasonal changes.
- Comparability: another advantage of the Year-On-Year metric is that it provides the outcomes and results in terms of percentage, which becomes easy and convenient for comparing the companies of different sizes as a part of market and competitor analysis.
- Volatility: YOY calculations can also smooth out the volatility throughout the year to compare the overall net results. Similarly, like seasonality, the business performance can differ over a year.
- Long-term performance analysis: In addition to mitigating the issue of volatility and seasonality, YOY offers another benefit, which is long-term performance analysis. It helps measure long-term growth year to year, not just month to month, as the name suggests. Resultantly, it allows one to recognize the trends over time and provides insights into whether short-term goals are going towards long-term outcomes.
- Ease of use: the last but not least and the most important advantage of the YOY metric is that it is one of the easiest to calculate metrics as well as easy to understand and use.
The disadvantages of year-on-year comparison:
There are a few disadvantages of using Year-on-year data, which are caused by over reliance on it instead of using it as one of many sources of information.
One potential issue that may arise by Year-On-Year comparison is caused by lumping together the performance of an entire year. Although, performance can also be measured on a monthly or quarterly basis.
Although, year-on-year data may also provide useful information. However, it’s specifically significant when you have related data. And this related data may not be available easily. For instance, you notice increase of inflation. However, it may not be easy to locate reason for inflation rise.
Further, full-year calculations remove trends that may occur quarterly or monthly. For instance, numbers for this year may look better than those from the prior year, but this is only due to an incredibly high-performance level for a couple of months in that year. When looking at this data, one could mistakenly assume that the entire year had better performance than the prior year when only two months boosted the numbers for that year. So, the conclusion may not be based on the facts but on misunderstanding.
Common Year-On-Year financial metrics
The list of most commonly used financial metric for conducting year-over-year comparison is described as follow:
- Sales revenue shows how much sales have increased or decreased year over year.
- Cost of Goods Sold (COGS) shows how well the company has managed its gross margin.
- Selling General and Administrative expense (SG&A) reflects how well executives have managed their corporate office expenses.
- Earnings before Interest Taxes Depreciation and Amortization (EBITDA): It measures operating profit and is a proxy for cash flow.
- Net Income: Reflects how tocompare the business’s bottom line over time.
- Earnings per Share (EPS): estimates how looking at the bottom line on a per-share basis.
Common Year-On-Year economic indicators
The list of most commonly used metrics for conducting a year-over-year comparison is given as follows:
- Inflation shows what the trend in inflation is.
- Unemployment rates reflect the workforce participation rate trend.
- GDP explains how much gross domestic product a country is producing.
- Interest rates: how are we in a rising or falling interest rate environment?
Conclusion:
Year on year analysis is a widely used technique in financial analysis. It’s used by various professionals, including but not limited to accountants, auditors, economists etc.
YOY technique can be applied at the company, country, and state levels. Further, comparisons can be made monthly, yearly, and some selected periods. However, an apple must be compared with an apple only.
There are different advantages of using YOY, including incorporation of seasonality, volatility, comparability, long-term performance analysis, and ease of use. However, certain disadvantages include, yearly performance is measured as a lump sum. So, it can be difficult to identify insights for the specific period. Secondly, insights are dependent on the related information. For instance, YOY concludes that sales have increased by 20% compared to last year. However, it can be difficult to identify the reason for the sales increase. So, related information can be difficult to obtain.
To enable a firm a comprehensive evaluation, the Year-On-Year comparison should be combined with other methods of analysis, including the annual, quarterly, and monthly metrics.
