Year-Over-Year Explained With Its Pros and Cons
How to Calculate the Year-Over-Year (YOY) Growth Rate
A year-over-year calculation compares a statistic for one period to the same period the previous year. The period is for a month or quarter basis. The year-over-year growth rate calculates the percentage change during the past twelve months.
Year-over-year (YOY) is an effective way of looking at growth for two reasons. First, it removes the effects of seasons. For example, say your business revenue rose 20 percent last month. Before you break out the bubbly, check it against the income from the same month last year. Maybe your sales always rise this time of year. If sales typically rise 35 percent this month, then your revenue is down year-over-year. Your business is doing worse, not better.
Second, it discerns long-term trends. Say a business is growing at a nice, steady 2 percent a month. But if it grew 3 percent a month last year, it will be down when compared year-over-year.
For these reasons, make sure you check what comparisons a financial report is using. Are the authors comparing the data to the previous full year, such as 12 months of accumulated revenue, or to a statistic's value as of the last period of the quarter, month, week, or day? Also, check to see if they are using the calendar year or fiscal year.
If you're thinking about using the YOY statistic, the following snapshot of the pros and cons can help you apply the metric more effectively.
Negates seasonality because of comparing specific points in time
Smoothes out volatility throughout the year to compare net results
Easy to calculate; no need for spreadsheet or financial calculator
States results in percentage terms for ease of comparison across different-sized companies
Offers meaningless result if one time period had negative growth
Provides more meaning when trends are observed over several calculated periods
Can hide problems in a given month if only comparing full-year metrics YOY
Doesn't offer much information unless used with other metrics
Pros and Cons
The biggest advantage of year-over-year comparisons is that they automatically negate the effect of seasonality. For example, retail statistics rise each November and December because of the holiday shopping season. It's the most critical time of the year as the season accounts for almost 20 percent of retail sales. Another advantage is that the metric is stated in percentage terms, making it easy to compare different-sized companies when doing industry, competitor or peer-company analysis.
Year-over-year analysis helps smooth out any volatility in the month-to-month numbers. For example, investors should have used a year-over-year comparison in June 2011. The Bureau of Labor Statistics reported that the economy only added 18,000 jobs. They panicked because it was less than the 25,000 jobs added in May and the 217,000 jobs added in April. The unemployment rate rose to 9.2 percent. The stock market dropped. The prices of safe haven investments like Treasurys and gold sky-rocketed. Thanks to that panic, gold hit an all-time high of $1,895 an ounce a few months later.
In this case, the calculation seemed misleading when using individual months YOY, but when using full-year results, the calculation showed that the total number of employed people had increased by 1.8 million between June 2010 and June 2011. The economy’s recovery had not derailed. There are more examples like these in the current jobs report and the current unemployment report.
Don’t rely on year-over-year alone. It's a good idea to look at month-to-month as well to get the full picture.
A few issues can arise with the YOY calculation, especially if a company experiences a period of negative growth. The resulting growth rate won't make sense. Also, as with many other business metrics, the YOY statistic provides much more information when calculated for a few time periods to reveal trends, and doesn't really explain enough of a company's growth story unless used along with other metrics.
If you rely only on the YOY metric, calculated with full-year values, you may also miss problems such as abnormally low growth in one month, which gets smoothed out if using a full-year number for the calculation.
Most business news reports monthly trends. You usually have to seek out the year-over-year number yourself, but you can find the formula inputs on a comapny's financial statements and easily calculate the statistic with a standard calculator.
How to Calculate the Year-Over-Year Growth Rate
To calculate the year-over-year growth rate, you need two numbers and a calculator. Then take these three steps.
- Subtract last year's number from this year's number. That gives you the total difference for the year. If it's positive, it indicates a year-over-year gain, not a loss. For example, this year you sold 115 paintings. Last year you sold 110. You sold 5 more paintings this year.
- Then, divide the difference by last year's number. That's 5 paintings divided by 110 paintings. That gives you the year-over-year growth rate.
- Now simply put it into percent format. You find 5 / 110 = 0.045 or 4.5 percent.
Let’s return to the employment example. In June 2011, total employment was 131.017 million. Total employment in June 2010 was 130.021 million. Here's how to calculate the year-over-year growth rate.
- Subtract 130.021 million from 131.017 million. The difference is 0.996 million or 996,000.
- Divide 0.996 million by 130.021 million, last year's employment number.
- The answer is 0.00766 or 0.766 percent. That's the year-over-year growth rate.
Most government statistics are month-to-month or quarter-to-quarter. You'll need to calculate the year-over-year numbers yourself to get the full picture. Here are three leading economic indicators where it's important to do year-over-year calculations:
- Durable Goods: The Commerce Department reports this statistic month-to-month. But YOY calculations warned of the Great Recession as early as October 2006.
- Manufacturing Jobs: America had been losing manufacturing jobs on a monthly basis for years. But when jobs started declining YOY in 2007, it was a sign of the pending recession.
- Gross Domestic Product: It says how fast the economy grew in the most recent quarter. The Bureau of Economic Analysis annualizes the GDP growth rate. It reports how much the economy would produce for the entire year if it continued growing at the same rate. The BEA does that so it’s easier for you to do a YOY comparison with previous years of GDP growth.