What to look for when valuing retail outlets
Retail investment valuation
There are many different ways to value a Company. You could look at the Companies assets and liabilities to see what it is worth on a net basis. You could assess the valuation based on the liquidation value ie how much money would be raised if all the individual assets and components were sold off and the debt repaid. You could value based on estimating the future cash flows of the business and discounting those back to the present day at a reasonable discount rate. Or else you could use multiples. For example, let's say you're looking at an oil Company and you are aware that on average Oil Companies are valued by the market at 12X earnings. Therefore you would take the current earnings of the Company and multiply by 12 to get your estimate of the market value.
Every valuation metric has its pros and cons. Some are more suited to certain industries than others. However I suggest that in the case of retail Companies that have a physical shop floor then a better investment metric is the revenue per square foot.
Revenue per square foot
Revenue per square foot is easily calculated as the total revenue of the Compang divided by the square footage of all of the Company's selling space. The benefits of the revenue per square metric are that they are an indicator of the efficiency of the Company's operations. It is telling you how good the Company is at selling and ultimately it will be the sales and the sales growth from a fixed area that will determine the future valuation of a retail Company. It's rare for a retail Company to be successful without making productive and efficient use of the space that it has.
If you compare the revenue per square foot of similar retail Companies such as M&S, Debenhams, and NEXT etc you'll get a pretty good idea as to which Company in that industry to investigate further.
Some pitfalls of the revenue per square foot metric
There are a couple of caveats to this metric that should encourage caution when relying on this metric. Firstly, you should be wary that some Companies charge much higher prices than others. For example when Comparing a luxury brand such as Burberry versus Primark (Associate British Foods) you will almost certainly find that the Burberry stores will have a bigger revenue per square foot. Although this does not automatically qualify Burberry as a 'better' Company nor a sounder investment.
The metric also makes the mistake of totally ignoring profits. The revenue per square foot metric tells you nothing of how the Company spends its money. If you look further into the Company's financial statements then you might find that the Company pays too much to produce its stock which eats away at its margins, leaving no profits remaining to pay dividends to its shareholders. Do not look at revenue per square foot in isolation to other parts of a Company's financial statements.
Finally, be cautious of ignoring revenue that isn't generated from bricks and mortar. For example, ASOS or BOOHOO.COM the online fashion giants do not sell from any physical retail space and yet they are hugely competitive Companies in the retail space. Revenue per square foot alone would result in the overlooking of some pretty great Companies for investment.
Whilst a single metric for evaluating a Company is a useful they should never be used in isolation.
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