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Posts Tagged ‘Inflation’

Since the late 1990s we have been trained to expect better opportunities to make money by investing in companies that have to do with technology: computers, Internet, information (IT), software, mobile devices, telecom, and so on. Despite some hurdles (e.g., the burst of the Internet bubble in 2000), interest remains very high in these areas from entrepreneurs, equity fund managers, private investors, and the media. In a special investors issue last month, Fortune magazine (2 July, 2012) chose to bring-up a different perspective, reminding us that much potential for growth over years can be found in strong consumer brands of the more casual and traditional types of products. These products include food, drinks, and household maintenance goods — grocery or staples — that everyone bascially needs to run his or her everyday lives, and enjoy a little beyond.

Brands of foods and drinks, for instance, may not produce yields rising as fast and handsomely as in digital technology but they tend to grow more steadily and persistently over multiple (e.g., 2o or 30) years, which makes them better targets for investment to save for our retirement stage in life. Yields may be understood as both dividends paid by the brand-owner companies and the gradual increase in share prices over the years. Relative to 1990, the Standard & Poors (S&P) Consumer Staples Index returned 854% while the general S&P Index rose 536%. However, two particular episodes are noteworthy: (1) During 1998-2000 the S&P consumer index fell from 400 to 250 while the S&P general index kept rising mildly, but then in 2000-2002 the consumer index recovered as the general index fell by 50% to 200 and kept producing lower returns; (2) Even more dramatically in 2007-2008, the general index suffered much worse (falling from ~500 to 200) than the consumer index (falling from 600 to 400), leaving a gap larger ever since 1990 between the two indices.

One of the advantages of the consumer brands of staples, as explained by Fortune’s writer Cendrowski, is higher predictability — managers can make safer and more accurate forecasts on how their branded products will perform between two and five years, compared with the technology products (i.e., “good luck guessing, say, which brand — or type — of computing device will be hot in five years?”). No one argues that forecasts for staples can be made err0r-free, yet analyses of past sales and research on consumer trends can make it easier to tell how consumers will use those products and their brands in comparison with the frenzy consumer technology categories. According to selected veteran investors cited by Fortune, strong brands might prove as more solid anchors for investment; although the chances of winning a fortune on them in a short-term are relatively low, keeping to the stocks of their companies will pay-off as the stocks climb inch-by-inch (re-investing dividends can add up to even higher returns later on). The advice to trust the stronger brands and patiently hold to them is well-appreciated. Two cautious reservations are in order, though: the article does not distinguish clearly enough whether the type of product or the status of the brand is the main source of this policy’s benefits, and it seems to brush aside the fact that corporations that own and manage the more familiar and favourable brands run sometimes hundreds of brands (e.g., Unilever, Nestle, Procter & Gamble, Johnson & Johnson) but stocks don’t distinguish between successful and much less successful brands — one invests in the whole portfolio. One does rely, nevertheless, on the expectation that a company that manages a bundle of strong brands does overall far better than competitors that have fewer or no such brands in their portfolio.

As we appraise the prospects of strong consumer brands, we should take into consideration that many of the developed and affluent countries are currently in recession or slow-down of their economies, which adversely affects the purchasing power of consumers (i.e., due to high unemployment rates, more half-time and temporary jobs, eroding real wages and salaries, financial losses on savings). While companies that own strong brands are more likely to have deeper pockets to help them go through such difficult periods with less harm, consumers may be much less willing to pay the high price premiums those brands often charge. These premiums are key expression of the brands’ higher equity and lever of revenue. As a recession extends longer, consumers may become more accustomed to modified decision strategies and purchasing behaviour patterns that farther distance them from the advantageous and higher priced brands.

On the other hand, there is the danger of inflation. A risk of inflation is looming in developed countries because of their very low interest rates (around 1% in 2012).  Fortune’s article highlights the pricing power of strong brands to overcome inflation. Rightfully, consumers are more tolerant to price rises undertaken by stronger brands. But this known propensity is not guaranteed to survive well during inflationary price hikes that continue over and over again. The power to overcome inflation is attributed in the article to a life-time commitment of customers to those brands. Two aspects are confounded here. First, loyalty to a brand means its customers are more willing to accept a price rise as an occasional adjustment by a strong and favoured brand, and are willing to pay a higher price for the brand they better appreciate and cherish. Second, enduring commitment to a brand suggests that its customers are likely to make greater efforts to hold to it through harsh times. The problem is that price differentials are more difficult to maintain through inflation, as prices change more quickly and thus the premiums that signal higher brand equity can quickly lose their efficacy in consumers’ minds. Loyal customers are expected to forgive the strong brand for continuous price hikes yet they are gradually likely to fail making sense of the “price premiums” it commands. An unstable inflationary process poses more complex challenges even to strong brands, and customer loyalty may not provide a sound protection from inflation.

Brands offer several advantages to consumers. Using brand names as information cues can help simplify and shorten the decision process. Strong brands provide confidence to consumers who are using their products; they may instill a sense of stability and certainty in their daily lives. In addition, brands often are employed as means of self-expression, helping consumers define their self-image and social image. But consumers have also become more demanding, expecting better customer experiences with brands, their products and services. The conditions under which consumers promise their loyalty to brands and companies get tougher, and even loyal customers expect to receive monetary and other rewards. Consumers are becoming better informed through different online media channels and enquire more about prices. The advantages mentioned above to consumers in using strong brands may translate less frequently into willingness to pay large price premiums. International research firm of consumer trending, trendwatching.com, identified earlier this year a trend of “deal-chic” among consumers: Consumers are looking more eagerly for opportunities and deals not just to save money but out of the thrill of pursuit, need for control, and the perceived smartness that goes with finding the best deals. It is about changing attitudes towards deals and discounts that is fueled by expanding sources of information online and the immediacy of information (e.g., by using mobile devices) which may consequently lead to the squeezing of strong brands. In recent years brands have entered more testing times and the implications of new tendencies in consumer behaviour are yet not fully revealled.

The positive approach of the investment experts to invest in companies that manage strong brands of the more frequently and regularly used consumer products is difficult to dispute and is overall commendable. The emphasis has to be on investment for the long run, trusting those companies and their brands to build-up high returns through time. This approach can be justified by the extent to which their products are rooted in consumers’ day-to-day lives, their longevity, and foremost the usually high-skilled level of marketing and brand management. They should be allowed the time, however, to come out and recuperate from either rough economic times that affect everyone or hardship and crises that specifically hit a given company before they get back on track. It is also important to keep in mind the changing and intensifying challenges that strong brands are facing, challenges that may require more patience and loyalty from investors.

Ron Ventura, Ph.D. (Marketing)

Reference:

“Bet on the Brands”, Scott Cendrowski, 2012, Fortune (European Edition), Volume 166, Number 1 (2 July), pp. 60-65.

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