How do you keep the vitality of Day One, even inside a large organization?
—Amazon.com’s Jeff Bezos, in a 2016 CEO letter to shareholders
If you’re looking for a model of a big company that retains the dynamism of a startup, Amazon.com (AMZN) is a good place to start. Why? In part because, as the quote above suggests, founder and CEO Jeff Bezos knows that successful companies must nourish and retain one characteristic above all: vitality. At BCG, we define vitality as the capacity of a company to explore new options, renew its strategy, and grow sustainably. Preserving past advantages and position is not sufficient to thrive in today’s complex and dynamic business environment. In a fast-changing world, only the vital will survive.
Declining vitality is making large companies increasingly vulnerable to change, according to our research. A 2015 BCG study, for example, found that just 7% of companies that are market share leaders in their industries are also profit leaders. Many are merely hanging on. Loss of vitality stems in part from the natural life cycle of companies: The high growth rates typical of younger companies are hard to sustain. But in the long run, the majority of returns for shareholders are driven by revenue growth. For companies to prosper and deliver for investors well past the startup stage, they must learn the secrets of staying vital.
A forward-looking measure
Today, most business decisions are still informed using backward-looking financial metrics, with the implicit assumption that past success is predictive of future success. But the high rate of change and uncertainty driven by technology, business model innovation, and other factors make this assumption increasingly untenable and demand new metrics and approaches. We believe the Coins2Day Future index, based on the idea of vitality, can help fill this gap.
The result of a two-year research effort, the Future 50 ranks U.S.-listed companies with the best prospects for growth. The index has two pillars: 1) a market view of growth potential and 2) an assessment of the firm’s actual capacity to deliver that growth, based on four dimensions: strategy, technology and investments, people, and structure (click here for more on methodology). The result is a composite score that represents both a new metric and new perspective for business analysis.
Our scoring system extensively leverages nonfinancial data to achieve this forward-looking view, giving insights on predictive factors which are not visible from financial data alone. For instance, one measure for technological advantage is calculated by analyzing the startup investments of companies and comparing them with the activities of the best-performing VC funds.
We use machine learning to leverage unstructured data and tease out predictive patterns. Natural language processing (NLP) algorithms enable us, for instance, to assess whether the strategy expressed in a company’s annual report reflects a vital approach: one with clarity, long-term orientation, and a new innovative dimension that we call “biological thinking.” The latter represents management’s ability to embrace and leverage the uncertainty and complexity of business environments and address them with flexibility, adaptation, and mutualism.
It turns out that you can learn a lot about a company from what it says about itself. BCG used its natural language processing to analyze 200,000 earnings calls and 70,000 10-Ks—specifically Item 7 in the annual reports, where the company’s management lays out its strategy. BCG’s algorithm then scored each company on different factors, including long-term orientation. The algorithm rewarded companies for using words like “invest” and “vision,” as opposed to phrases such as “current” or “short term.”
The variables we assessed were drawn from different branches of management theory and structured in a modular manner, permitting interpretability and avoiding the lack of transparency often associated with A.I.-based methodologies. And the choice of variables and their weighting is based on statistical testing of historical data, ensuring that every factor has a proven effect on long-term revenue growth.
Interpreting the results
The Future 50 is actually two lists of 25 companies—those with market value above $20 billion at the time of our screen (whom we call the “Leaders”), and those with market value below $20 billion (the “Challengers”). We separated them into different pools to adjust for an inherent bias: Any analysis focused on growth naturally favors smaller companies. But we wanted to make sure we identified big companies with the high potential to continue thriving, not just rising stars. No surprise: Bezos’s Amazon made the Future 50. On the other hand, Apple (AAPL), though it remains a high performer for an incumbent tech company, fell short—in part owing to its recent increased emphasis on paying dividends over reinvestment.
The Future 50 is not, of course, a crystal ball. Effective strategy does not always follow precedents or aggregate patterns, circumstances change, and good strategies can be undermined by better ones or by poor decisions. But we hope and believe that the ranking provides a useful, forward-looking view of business today.
Martin Reeves is a senior partner at BCG and the director of the BCG Henderson Institute.
The Future 50 Methodology
To identify the Future 50, BCG examined 2,300 publicly traded U.S. Companies and reviewed 15 years of financial results through year-end 2016. We divided the companies into two different groups—those above $20 billion in market value at the time of the screening and those below.
Our methodology has two pillars: Market potential and company capacity.
Market potential is measured as a company’s expected future growth as determined by the financial markets. This is determined by calculating the present value of its growth opportunities, which represents the proportion of market value that is not attributable to the earnings power of the existing assets and business model. That accounts for 50% of the overall score.
The other 50% of each company’s score is the measure of its capacity to deliver on that potential. This is assessed by a score comprising 14 factors, which were drawn from a larger group of variables which were tested and calibrated against historical data for their ability to predict long-term growth. These were grouped in four clusters:
Strategy: Trained on 70,000 10-K reports, our A.I. Algorithm uses natural language processing to detect semantic fields around initial keywords. It assesses companies’ long-term orientation and also detects “biological thinking,” characterized by an emphasis on adaptation, mutualism, and sustainability, which are essential to thrive in dynamic and complex business environments. Finally, clarity of expression in a company’s strategy and vision is measured using the Flesch–Kincaid score.
Technology and Investment: The capital-expenditure-to-sales ratio measures a company’s investment in the future. Technology advantage is measured through a company’s patents portfolio, weighted for quality (citations), digital emphasis (share in computing and electronic communication), and sustainability (proportion expiring beyond five years). To account for external innovation, too, a company’s portfolio of startup acquisitions is assessed for similarity with best-performing venture capital funds and share of tech areas with the strongest investment growth.
People: Board size and average age of executives reflects the empirically observed advantage of tight, youthful senior teams, while stability (the inverse of turnover) reflects the observed advantage of consistency.
Structure: The size (revenue-based) and age of the company are strongly correlated to vitality loss, which may however be compensated by revitalization, as measured by sales growth in the past five years.
A version of this article appears in the Nov. 1, 2017 issue of Coins2Day.
