The issue of what constitutues an asset is an important one if, like me, you like to be able to understand the relationship between a company’s reported assets and the valuation it enjoys in the market place.

As my previous post noted, any discrepancy between the two must reflect EITHER that the company is reporting its assets at less than market value OR that there are certain resources that are generating value (a.k.a “assets”) but that are not eligible for inclusion in the officially sanctioned list of assets. 

For the longest time, this was a debate of minimal economic significance.  Until the early 1980s, the difference between market value and book value was rarely more than 20%.  But the discrepancy was still deemed to be sufficiently troubling for the economist, James Tobin, to win the Nobel Prize for Economics for revealing its cause.  He showed that the discrepancy could be eliminated through “marking to market” (restating assets from their book value to their market/replacement value). 

This seemed to solve the problem – at least, until the merger boom of the 1980s and 1990s when the purchase price of companies regularly represented 4x book value or more.  It was clear that the purchasers were paying for more than just the tangible assets of the businesses they acquired.  This heralded the recognition of a new set of assets – intangible assets.

The UK led the charge with Finanical Reporting Standard 10 (“Goodwill and Intangible Assets” – issued in December 1997) which was mirrored and expanded by US Financial Accounting Standard 141 (“Business Combinations” – issued June 2001).  A multi-national standard, International Financial Reporting Standard 3, came into effect in April 2004.

The aim of each of these was to achieve greater transparency about the scale and nature of the intangible assets that acquiring companies believed they were acquiring in the merger.  IFRS 3 went the furthest in suggesting 5 classes of intangible asset that companies should use for reporting the “goodwill” component of the purchase price (the amount by which the purchase price exceded the net assets of the acquired company).

These five categories are:

1. Tecnology-based asssets (such as patents)
2. Contract-based assets (such as exploration rights)
3. Artisitic assets (things covered by copyright)
4. Customer-related assets (such as customer lists and market research)
5. Marketing-related assets (such as trademarks)

Because each of these categories of intangible asset was based on a form of intellectual property, they met the reporting requirement for an asset, namely “a resource controlled by the enterprise as a result of past events and from which future economic benefits are expected to flow to the enterprise.”

Problem solved?  So we now have an exhaustive list of corporate assets (both tangible and intangible) and can reconcile book value with market value?

Just as the initial euphoria about Tobin’s Q “solving” the market to book problem through the revaluation of tangible assets proved misplaced, so I believe the current confidence in the exhaustive nature of the current list of corporate assets will prove unfounded.

I will explain why in my next post.

Tagged as: Brand Equity, Business Value, Intangible Value, Intellectual Property, mergers

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The last time I did a detailed calculation of the level of intangible value in the S&P 500 was in the dark days of March 2009.  I did not realize it at the time, but my analysis was done the bottom of the market (8 March 2009 was the low point).  So it is high time I looked at the composition of market value again.

Here is the latest data (figures as at January 8 2010):

• Aggregate market capitalization of the S&P 500:  $10.7 trillion
• Aggregate book value of the S&P 500:  $4.8 trillion
• Aggregate tangible book value of the S&P 500:  $2.1 trillion

A couple of points are worth noting:

• Tangible book value represents only 20% of market value (2.1/10.7)
• Declared intangible assets now represent a larger proportion of book value than tangible assets ($2.7 trillion vs $2.1 trillion)
• The aggregate value of balance sheet assets (both tangible and intangbile) accounts for less than 45% of market value (4.8/10.7)

So the big question is “what explains the other 55% of market value?”

There are two ways to close the gap between the balance sheet and market value:

• Restate balance sheet assets to show their market value rather than their book value (currently assets are shown at the lower of historic cost or net realizable value) – otherwise known as “marking to market”
• Include resources that are clearly responsible for generating value for companies but that do not meet the accounting definition of an asset (“a resource controlled by the enterprise”) and so are not eligible to appear on the balance sheet

The answer to the 55% question is a mix of the two.  I will develop this argument further in subsequent blog posts.

Tagged as: Business Value, Intangible Value

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Continuing my theme of Reason and Emotion as complementary sources of customer value, this post deals with the problems that arise when the two are deemed to be at odds with one another.

A belief that Reason and Emotion cannot coexist leads directly to two fallacies:

• The first is that “good products sell themselves”
• The second is that marketing is there to compensate for some weakness in the product

The first is what I call “The Field of Dreams” fallacy because it is based on the belief that “if you build it, they will come” – this may work for mythical baseball players, but it is the reason why many technologically superior products have failed to gain traction in the market.

The second is the “Lipsticking the Pig” fallacy – the belief that the role of marketing is to create an emotional appeal for products that are functionally inferior (as is “this product is not selling well – let’s get marketing to produce a glossy brochure and a promotional event so we can shift our inventory”).

As I mentioned in my last post, the mark of good brands is that they offer a value proposition that is as compelling to our heads as it is to our hearts.  Reason and Emotion are both sources of customer value.

Tagged as: Brand Equity, Brand Strategy, Business Strategy, Earthlings, rational

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Another week on the whistlestop world tour (the chosen continent for this week being North America) and the observation about the (mis)characterization of Emotion as the opposite of Reason has been emphatically reinforced.

Once again, the groups seemed rather uneasy at the prospect of having to articulate the emtional component of their value proposition to clients.  It is easy to see why – in companies with a strong finance culture it is a grave rebuke to be told “you are being emotional” as it means that you are not thinking straight.

It is a magical moment when the participants realize that the value proposition of a high performing service can be lifted from “buy ours because we have the fastest feeds and speeds” to “ours is uniquely able to meet a wider set of needs” through the acknowledgement of the functional and emotional drivers of the customer’s decision.

The head and the heart do NOT represent mutually exclusive forms of logic.  Rather, they are complementary forms of logic – one focusing on “what does this product do for me?” while the other focuses “which one feels right for me?”

This debate reminds me of the observation by the seventeenth century French philosopher, Blaise Pascal, that “le coeur a ses raisons que la Raison ne connait pas” (the Heart has reasons that Reason does not recognize).  This statement is generally understood to mean that the heart is irrational.  I think this is wrong.  What Pascal is actually saying is that the heart has a logic of its own, and it is different from “rational” logic.

The goal of good branding is to craft value propositions that have both rational logic AND emotional logic, not just one or the other.

Tagged as: Brand Equity, Brand Strategy, Business Strategy, Customer Value, Earthlings, rational

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While going through my research archives looking for something else, I rediscovered a piece of McKinsey research from late 1996 with this title.  It was a meta-study of 27 individual studies that examined the importance of brand as a driver of purchase behavior across a number of business categories.

Their finding was that, on average across the B2B and B2C markets studied, brand accounted for 18% of the total purchase decision.  The figure ranged from 3-12% for consumer purchases of computers (3 US studies) to 36-39% for consumer purchases of computers (3 European studies).

Their research also revealed that, in 17 of the 27 studies, there was a “brand loyal” segment for whom brand was the determinant factor in their purchase decision.  The size of this segement varied from 10% in retail banking to 35% in telecoms, with an average of 21% across the 17 studies.

It is interesting that similar results about the economic significance of brands are produced by a variety of different approaches.

Tagged as: Brand Equity, Business Strategy, Customer Value

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I am presenting to an EMBA class at Columbia this evening on the topic of brand equity and marketing accountability.  I am looking forward to it – EMBA students always ask great questions.

The gist of my presentation is that brand equity represents an important bridge between the worlds of marketing and finance.  Marketers intuitively think of brand equity as a measure of the strength of the brand’s franchise with customers; Finance folk intuitively think of it in terms of the incremental profit/cash flow that is generated by the brand.  The two definitions are compatible but they do not describe the same thing.  The marketers view of brand equity represents the potential for value; the finance view represents the realization of value.  In that sense, a marketing definition of brand equity will always be larger than the financial defintion because it does not allow for all of those potential brand sales that failed to occur due to lack of distribution or stock outs or a host of other factors that may prevent customers acting on their stated “intention to purchase” (one of the key measures of brand equity from a marketing perspective).

Should be a fun session.

Tagged as: Brand Equity, Brand Valuation, Causal Model, Marketing Accountability, Marketing ROI

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I am in the process of responding to another RFP that stipulates that brand valuation is one of the deliverables.  Given the context,  it is clear that the client does not mean valuation in its financial sense.  What they appear to want is a methodology for brand evaluation.

I hate to pick nits but it is a source of considerable confusion when a term that has a specific meaning to a financial audience is used in a much broader sense by marketers.  Marketers are often guilty of using financial terminology to describe anything that involves measurement - they overlook the fact that many forms of measurement are non-financial (such as awareness levels, repurchase rates, willingness to recommend and so on).

For that reason, I have found it useful to make the distinction between two forms of brand measurement:

• Brand evaluation is the discipline of developing a quantitative (but non-financial) understanding of the strengths of a brand on multiple dimensions and with multiple audiences.  The focus of brand evaluation is understanding the level of customer value that the brand generates;
• Brand valuation is the discipline of determining the proportion of overall business value that is solely due to the impact of the brand on the behavior of key audiences.  The focus of brand valuation is on measuring the level of shareholder value that the brand generates.

 Brand evaluation is a discipline that should be embraced by any organization that wants to understand what is driving customer preference and internal engagement.  Brand valuation is a specialist discipline that is of particular value when an organization is contemplating a merger or licensing transaction, or when it is engaged in a trademark dispute.

Despite the popularity of league tables of the world’s most valuable brands produced by Interbrand, Millward Brown and Brand Finance or of the world’s most powerful non-profit brands produced by Cone, the managerial applications of brand valuation are surprisingly limited.  A brand does not become more valuable simply as a result of measuring it.  What actually makes a brand more valuable is when an organization is able to enhance the preference for the brand among its existing audiences, and how to promote the brand to new audiences.  The financial value of a brand is determined by the behavior of its audiences.

Brand evaluation is about strategy and management.  Brand valuation is about accounting.  My beef with brand valuation is that it distracts clients from the more productive task of identifying and measuring the sources of their brand’s value to customers, partners, and employees (brand evaluation) and on generating ideas for how this value can be increased.

Tagged as: Accounting, Brand Equity, Brand Measurement, Brand Valuation, Causal Model, Marketing ROI

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Vic Cook, Professor of Marketing at Tulane, has suggested that the scale of the brand “bonus” should be correlated to the proportion of brand value to overall market value.  I had resisted using the actual dollar values in any of the brand valuation league tables because of my skepticism about their accuracy (see “My Brand’s Bigger Than Your Brand”) but I have to admit that Vic’s suggestion is irresistible.  

If we can show that the level of the brand “bonus” enjoyed by a company was proportionate to the relative importance of its brand, this will be strong evidence that brands are a class of asset whose value is less volatile than the overall market.

Tagged as: Brand Equity, Brand Valuation, Business Value, Intangible Value

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People like to assert that brands provide some cushion for a company when markets are falling, and help them bounce back faster when the market begins to recover.

The last twelve months provide a wonderful testing ground for this theory in that we have had a period of rapid market decline (Sept/Oct last year) and a period of rapid recovery (March/April this year).   Interestingly, the percentage changes were almost identical – in the first period the S&P 500 fell by 35% vs. a rise of 37% in the second.

My question is “How did a portfolio of strong brands perform relative to the market?”

The answer (based on a portfolio of 102 companies measured relative to the S&P 500) is that strongly branded companies enjoyed a brand “bonus” of around 4% during the market crash.   In the rising market, they outperformed by less than 1%.

I actually constructed a number of different portfolios to see if a portfolio based on any of the major lists of “the world’s best brands” outperformed the market.  I created 9 portfolios in all using the Fortune, Interbrand, Millward Brown and Brand Finance lists, and combinations thereof.

The portfolio that registered the best performance in the down market was one based on the Fortune list of most admired companies (it beat the S&P 500 by 7%).  The portfolio that did best in the up market was a blended portfolio comprising companies that appeared on at least 3 of the 4 lists (it beat the S&P 500 by 15%).   Across the up and down markets, the blended portfolios performed the best.   

Maybe this is another case of “the wisdom of crowds”?  Across market cycles, a portfolio based on a synthesis of the Fortune, Interbrand, Millward Brown and Brand Finance lists outperforms portfolios based on any one of them…

Tagged as: Brand Equity, Business Value, Intangible Value, marketing and finance

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 I have been reminded over the past week about how fundamental trust is to all forms of commerce.  Separate discussions with three clients in three different industries all ended up in the same place – “what do we need to do to regain the trust of our customers and partners?”

I did an analysis of the dimensions of trust back in 2003 in the wake of Enron and WorldCom.  Based on the correlates of the attribute “trustworthy” in the BrandAsset Valuator database, I identified four dimensions – reliability, integrity, empathy and familiarity (the results are in my piece “Credit for Credibility” that was published in McKinsey’s special report for the World Economic Forum that year). 

However I think that Stephen Covey has come up with a more actionable framework in his “Business at the Speed of Trust” (published in 2006).

His key point is that trust has two dimensions – competence and character.  We need to know that the person is not only able to help but also willing to do so.  Helpfully, Stephen Covey also suggests that each of these two dimensions has two aspects.  Competence is about both capabilities and proven results; character is about both integrity and intent.

What can be done to regain trust?  Some good places to start:

• Ensure that you are communicating your capabilities in a clear, honest way
• Share the data/case studies that demonstrate the results you have achieved
• Talk about the values of the organization, and the behaviors that you encourage
• Signal your intent to help your customers/partners by offering them something of value (perhaps some data, or an insight into the market) without looking for anything in return

Tagged as: Brand Equity, Customer Value, Earthlings

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Whatever the rights and wrongs of Rick Wagoner’s ousting from GM, he provides a wonderful example of the difference between Vulcan and Earthling thinking. On what planet is it acceptable behavior to take your private jet to a meeting where you are asking for a hand-out of billions of dollars?

You might be surprised to learn that the answer is “on the planet Vulcan.” From a narrowly rational point of view, it makes sense for Rick Wagoner to argue that ”my time is so valuable that I will not waste it by waiting in line at an airport for a commercial flight to Washington.”

On the planet Earth, however, things are not that simple. A man who is asking for money needs to avoid creating the impression that even a single cent of the money will be used to subsidize his lifestyle as opposed to saving what was once one of the world’s great companies.

It seems obvious – but this failure to consider the human dimension of business is repeated on a daily basis by companies that really should know better.  We do business on planet Earth and that means that we need to recognize that our customers are never satisfied with an answer to just “what will you do for me?” – they also want to know “what can you mean to me?”

Tagged as: Brand Equity, Earthlings, rational, Vulcans

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Earlier in my career, I believed that Marketing, Finance and Accounting inhabited different universes and spoke mutually unintelligible languages. But the topic of Brand Equity has convinced me that these worlds are actually aligned.

In Accounting, the focus is on the reporting of value; in Finance, the focus is on capturing value; and in Marketing, the focus is on the creation of the customer value that is the precursor to either measure of financial value.

It is therefore appropriate that the each discipline has its own definition of Brand Equity that corresponds to its specific definition of value. This definition broadens from the trademark (recognized by accounting), to brand-induced customer behavior (recognized by Finance), to the potential for value due to brand preference (recognized by Marketing).

I used to see the topic of Brand Equity as the battleground for the mutually incompatible world views of Accounting, Finance and Marketing. I now see that their respective definitions represent different points on a single spectrum, and that this perspective provides a powerful basis for the effective collaboration between the three disciplines.

Tagged as: Accounting, Brand Equity, Customer Value, marketing and finance

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