The valuable assets you can’t see, feel or touch
Posted by Liz Rees in Latest insights category on 19 Dec 18
When asked what we would like for Christmas, many of us preface our requests with a brand name: Chanel perfume, a Burberry scarf, a Mulberry Handbag, Nike trainers, a Nintendo games console and the list goes on. For companies that have built successful brands, which they own the rights to and heavily promote, this store of value will be reflected in their share prices. Therefore, brands can be a key driver of returns for shareholders.
Analysts use various techniques to analyse shares and determine whether they have the potential for superior returns. When Britain was a manufacturing-led economy, tangible assets were the foundation of a company’s worth. These encompassed a wide range of physical, and easily quantifiable, assets from land and buildings to plant and machinery. ‘Real’ assets provide some security for investors because if a company falls on hard times, they can be sold relatively easily.
Share prices rely on more than balance sheet assets
Recognition of the value of brands and other intangibles began in the 1990s as globalisation removed barriers to trade and made it easier for companies to target a worldwide audience. In particular, the growing middle classes in emerging markets aspire to own western brands as a symbol of prosperity. Consequently, established brands and intellectual capital, such as patents, copyrights, trademarks and goodwill, have become increasingly relevant when appraising a company.
Most intangible assets do not appear on a balance sheet unless they have been acquired and can be measured by the price paid for them. Hence, a company like Apple has modest asset backing compared to its huge stock market capitalisation. In addition to the healthy earnings stream, it is clear the market is making its own assessment of the brand’s worth.
Attributing value to intangibles may be subjective, but some high-profile takeovers have illustrated the high prices that predators are prepared to pay for a complementary brand. You may be surprised at the number of iconic British brands now under overseas ownership; Harrods, Weetabix, Walkers Crisps, Beefeater Gin and Manchester United are just a few that come to mind but the list is extensive. Did you know Tetley Tea and Jaguar Land Rover are both owned by Indian conglomerate Tata Group?
More to gain but more to lose
Sceptics will argue that a brand is only worth whatever someone is prepared to pay for it at a moment in time. Certainly, merely acquiring a brand is not a recipe for success; it must be developed and invested in to remain dominant. Negative publicity can easily damage or even destroy the reputation of a long-standing brand. Think of the BP Deepwater oil spill, the VW emissions scandal or the Facebook data breach. Such events can take many years to recover from. Furthermore, many companies have paid big premiums for a brand only to see things not work out as envisaged, leading to substantial write-downs.
In the western world, corporate investment in intangibles such as software, design, branding and research and development now outstrips investment in traditional fixed assets. What’s more, the digital age has brought a new dimension to the concept of intangibles. Who would have foreseen a hotel company that doesn’t own a hotel (Airbnb) or a taxi firm that doesn’t own a car (Uber)? The minimal capital required has made it possible for such businesses to scale up at a phenomenal rate but also means there is very little substance if growth falters. Consumer preferences can undoubtedly be fickle; discounter Aldi has recently stripped Waitrose of the title of Britain’s favourite supermarket.
For investors, the key question is whether the rich share prices of intangible-based companies are justified. Take US media company Netflix - its tangible assets are negligible compared with its market cap of around $115bn. That’s a lot of brand value, content library and customer data you are taking on trust. Should it trip up there’s potentially a lot of downside, illustrating the need to be very selective in stock picking.
During the dotcom bubble, sky-high values were attributed to internet start-ups with minimal revenues, and these suffered badly when the bubble burst. Lessons were learnt but, two decades later, attributing a sensible measure of value to new innovations such as artificial intelligence and cyber data remains as difficult as ever. Ultimately, there are few hard and fast rules for navigating the digital economy as apps, data-driven platforms and automated algorithms come to play an ever-greater role in our lives. One thing is certain, for better or worse, we are no longer living in a material world!
Funds which invest in brands
Many well-respected Fund Managers target quality Blue Chip brands with global reach, particularly those with defensive qualities which sustain high levels of demand over the long term. Some popular Funds employing this strategy include: Fundsmith Equity, Lindsell Train UK Equity, Lindsell Train Global Equity and Evenlode Income.
Lindsell Train manager Nick Train focuses on companies with established brands, or ownership of intellectual property rights, which are taking advantage of the disruptive effect of the internet. Another consideration is ‘heritage’; Nick believes it is vital that his investments can endure economic cycles and changes in fashions and stand the test of time. His strict filtering process rules out many tech stocks and means the investable universe is small. The ideal holding period is forever and, unsurprisingly, turnover is low. Big positions in his funds include Unilever, Diageo and Mondalez (owner of Cadbury).
As for me, I’ll keep hoping for that Mulberry handbag under the tree, though I wonder if Mulberry shares could prove a better long-term investment. I’m taking next week off to get in the festive spirit (with a small glass of Bailey’s) so would like to take this opportunity to wish all my readers a very Happy Christmas and prosperous New Year.