Most analysis starts with the financials. Earnings, margins, returns, and all that jazz. They’re important, sure, but they come after the fact. They’re downstream of what really matters.
Before the numbers, before the model, you need to start with the business itself and the value it’s trying to create for its customers. If it can’t deliver real value, any financial analysis is moot.
And because most businesses operate in competitive markets, that value doesn’t get judged in isolation. It’s measured against alternatives. Which means, if a business has any hope of succeeding, it needs to offer something that is either cheaper, better, or new.
“Cheaper” is obvious. If you can find a comparable good or service that’s less expensive than what you’re currently using, you’ll obviously switch. There’s definitely something to be said for brand loyalty, but that only goes so far.
“Better” is more subjective, but also straightforward in concept. Customers are almost always price-sensitive, but will rationally pay more for a given good or service if it is superior to them relative to other alternatives in the market.
That might mean better design, better performance, better service, or simply less friction in the buying experience. One product solves the same problem as another, but does it faster, easier, or with less hassle.
“New” is the rarest beast — true innovation that unlocks untapped demand. It’s not just a better mousetrap. It’s a different game entirely.
Success attracts imitators, of course. But being first still counts. First movers build brand, loyalty, and data. They get to learn faster and shape the market while others play catch-up.
The key is knowing whether “new” actually solves a problem, or is just novelty dressed up as disruption.
Of course, if a company can’t satisfy customer demand in a manner that is either cheaper, better, or new, it could still prove viable — and even grow — if the market sector to which it belongs is growing fast enough. Industry tailwinds are a wonderful thing, and it’s always better if a business has some wind in its sails.
But trees don’t grow to the sky, and at a point, market share really matters. You don’t want to invest in a business that is a Johnny-on-the-spot; far better to back the one that can outpace its rivals. They’re the ones that withstand any sector downturn, and they’re the ones with far more sustainable growth prospects.
This is why sales and revenue are so important. While it’s true they tell you nothing about efficiency or viability, they do offer a clear signal as to whether a business is producing something the market values. And what you really want is a business that is growing its sales faster than the industry average.
That’s a clear sign of growing market share, which in turn shows you that it’s offering something that is relatively cheaper or better than its competitors, or satisfying demand in an entirely new way.
Of course, top-line growth isn’t enough. Anyone can hand out $1 coins for 50 cents and call it traction. So the next question is: can they do it profitably?
And it’s at this point we should investigate the usual financial metrics. Things like margins, capital efficiency and return on equity.
Even then, if growth is what we desire, our job is not yet complete. The next question is capacity.
Can the business meet growing demand with the current asset base? Is supply constrained? Are there operational choke points or capital hurdles that cap their growth?
This is the point at which you look at the likely capital expenditure requirements, and whether the cash flows and balance sheet of the business are adequate to fund the necessary investment.
So before you even open Excel, ask:
- What problem is this company solving?
- Is the solution cheaper, better, or new?
- Are customers responding?
- Can the company scale?
- Can it make money doing so?
- And can it keep doing it?
Only once you’ve understood the engine should you bother tinkering with the dashboard. Because financials don’t drive the business. The business drives the financials.
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