Brand Value and Stock Performance
Is this the easiest way to beat the market?
Hi Everyone,
In today’s article, we’ll find out how critical intangible assets like brand value are for a company’s performance.
If a company wants to succeed in the long term, building and sustaining its brand value is a key strategy. But what is brand value? Brand value is a company's reputation and market appeal. It can be created through the quality of the products, services, and support the company offers. The company’s overall perceived authenticity of its story or message to consumers, and how well the company listens to its customers are also key components of brand value.
Brands are more than trademarks that identify products and services. Branding encompasses everything related to vision, mission, business strategy, strategic marketing, and communication programs. A brand is a set of distinctive features, qualities, and values that form an image in the mind of consumers. Brands can be a name, symbol (such as a logo), slogan, design, or package that has been created to identify the goods or services offered by one company.
Brand value can be defined as “a customer’s preference for a brand over its competitors, which is accompanied by the willingness to pay a premium price for the product.”
From the perspective of consumers, the main benefit of a recognizable and meaningful brand is that it reduces the perceived risk of purchase. If a product is well known, the customer assumes it will be safe to buy it. Gaining brand recognition and visibility is important for new product development strategies. A recognizable brand gives companies greater flexibility in their decision-making process when developing new products.
From the perspective of the company, the benefits of a strong and recognizable brand are as follows:
Premium pricing and higher margins: Branding provides a way out of commoditization and its consequent profit erosion. Too often, pricing is the only competitive tool for firms who wear themselves down on razor-thin margins.
Increasing the value of the company: One thing that contributes to a company being worth more than the value of its assets is its brand. A brand can, for example, make a company worth more in acquisitions or licensing negotiations.
Improved financial ratios: The impact of brand performance on financial ratios is also significant. High-quality brands also provide much better returns on investment. Performance indicators such as gross profit margin, operating profit margin, net profit margin, and return on equity all demonstrate a clear trend of higher profits with higher-quality brands.
Branding and stock returns
Unlike other forms of intangible capital (such as R&D and employee satisfaction, which I covered in this article), there is a clear link between having a more recognized brand name and higher firm value. Top brands charge higher prices; have more loyal customers; enjoy durable advantages over competitors and face lower threats from entrants; have lower financial constraints and higher cash flow stability; can more easily attract and retain their employees; and elicit greater customer interest in trying, adopting and personally promoting a new branded product. Therefore, the brand value of a firm is one of the most valuable intangible assets it can possess.
But how can we measure the value of an intangible asset? I prefer to make investing as simple as possible, which is why I’m happy if others have already done the research for me. In this case, we can use Interbrand as a viable source. Interbrand is the world’s leading brand consultancy and they publish a yearly ranking of the Best Global Brands. Here are the Top 20 from this year:
Their financial analysis measures the financial return to investors. Interbrand calculates how much of a company's total sales are attributed to a specific brand. Then, they forecast five years of sales and earnings tied to each brand's products and services and calculate how much of these earnings are due to the brand's power (e.g. after operating costs, and taxes). The brand's role is the portion of the purchase decision that can be attributed to the brand. Interbrand analyzes the brand history and ranks companies in an index. The third factor in determining brand value is brand strength. It addresses the brand's ability to create loyalty and, as a result, aids in the creation of long-term value. Below you find an overview of all the factors they take into account:
Can we use Interbrand’s yearly ranking to boost our portfolios?
To determine how much shareholder value branding generates, we compare the financial performance of the brand-focused companies from the Interbrand list with that of the MSCI World which serves as a market benchmark. The portfolio is rebalanced annually to avoid a survivorship bias. The sample period is from January 2000 through June 2018. Here’s how this strategy would have performed:
We see from 2000 to 2009 a slight outperformance which increases from 2009 year after year. To keep it simple, we can draw two conclusions:
Branding leads to an increase in shareholder value and helps to beat the benchmark.
The shareholder value grows even more during the rise of social media.
It’s important to note that the strategies for outperformance that I show you in my articles should be viewed from a general standpoint. You will always find some exceptions that don’t follow these rules, but this is not how a successful investor operates. Finding stocks that perform well is all about principles and general rules. Even if you buy some losers, you will still come out well in the long-run because you bought from the right basket in the first place and avoided the ones that haven’t historically performed well.
If branding increases shareholder value over time, then keeping an eye on brand rankings should be a cornerstone of any successful portfolio strategy. In the examples above I used Interbrand as a source, however, there are three other great lists you can use that give you a pre-selection:
Final Words
With the improvement of data analysis and social media, branding will become even more important for companies than it is now. Getting more information about consumers and how to target them cost-efficiently will provide huge benefits for those who know how to use this data.
While not all stocks that appear on those lists will beat the benchmark, investors still have a great basket that they can choose from, especially after a bear market. Read my previous articles on stock selection and you can narrow down those lists to a handful of stocks that represent great long-term investments. Investing and outperforming the market is not that hard if you know where to look and what to look for.
I hope you learned something today, until the next issue. 👋