Things are never as black and white as one would expect in life. With experience, each one of us realizes that its mostly about ‘different shades of grey’ with some occasional patches of blacks & white here and there. Then, why should it be any other way when it comes to investing?
Whenever a business in question is enjoying dominance in its ecosystem (i.e. enjoying a strong competitive advantage), it is never due to just one factor. In fact, more often than not it is due to cumulation of multiple factors stacked one after the another. Hence, it makes our job as business evaluators difficult.
If you know that business is a dominating one, why bother cutting things down to the bone? Well, if you cannot explain something in simple terms, you probably don’t understand it as clearly as you think you understand – as yet. More specifically sometimes, out of the contributing factors leading to the dominance, some are just far more important than the rest. And it is those important ones which we need to track as owners.
Given that as value investors we more often take the contrarian route in stock selection (and are also handsomely compensated for doing so) the critical job then is to ensure that our conviction is rightly placed. Or at least realize early-on that we are wrong.
Its all about the brand, silly
Given that most of these dominant companies have reputation attached to their name, more frequently it looks like as if it is the brand which is driving things up. In most of the cases, it cannot be farther from truth.
Let’s take up a recent example. Couple of days back it was reported that an Spice Jet aircraft had an explosion in one of its engines. There were no causalities as the aircraft was empty. In fact, the nearby fully loaded Indigo wasn’t as lucky and some of its passengers had suffered some minor injuries due to it (another case for airline rivalry! Michael Porter always knew this)
But do you think this incident would alter the your flight booking behavior henceforth? Mostly likely, it wouldn’t. We know that probability of things going wrong with an aircraft is one in a million and that’s about it. In fact, driving related casualties is far higher in India than mid-air casualties.
And now let’s take up not so recent example. Remember about ‘worms in cadbury’ episode or ‘lead in maggi’ ? The probability of having each of these in your next serving is even lower than that of one in a million. But it had an effect on buying behavior in general – at least temporarily.
Also, its impact could have been far higher had it not been for the damage control measures which each of these companies took. Its closer to two years since maggi was reintroduced in the market clearing all the accusations levied on it. However, it is yet to achieve its erstwhile market share – though it has seen a robust recovery.
Airline and other two episodes highlights to us two things: (i) role of brands in the respective businesses and (ii) its resilience.
Something unfortunate happened with an airline carrier and with a noodle maker. But response to each of these events was vastly different. Why should so be the case?
The answer – in some businesses the role which a brand plays is far higher than others. Higher its importance, higher is the impact when ever it takes upon a hit.
Irrespective of however importance we may assign to the ‘name’ of a particular company or its product, the fact is not all names graduate to become a reputed brand – even in case of a dominant company. More often than not its just a name (or not a very strong brand) which we mistakenly ascribe far more weightage than we should.
Fertile hunting grounds
Fortunately, in order to asses whether brand is ‘the most important thing’ or not, one does not need to wait for an ‘episode’. There are other ways out there to figure it out!
For brands to prosper, they require suitable ‘breeding’ grounds. That is to say ‘names’ graduate to become strong ‘brands’ only under certain recognizable conditions. Investing in many ways is about pattern recognition.
So which are those situations?
When we purchase something, we undergo either of the two kinds of decision making processes: automatic decision making and appraisal based decisions. One may spend his days (and some sleepless nights) trying to figure out which car to buy. While we pickup our toothpaste from a frequently visited store’s shelf without even caring to turn around and look at its MRP.
So while brand plays some role while buying a car and a toothpaste, it is the latter where its relevance is just too high. Car buying process is more model specific and somewhat manufacturer agnostic – economy and maintenance cost matters more than manufacturer’s badge. Whereas today morning when I ran out of my supplies of colgate, I spent a minute thinking whether I should just skip brushing my teeth today (I didn’t skip finally! somewhat reluctantly tried another ‘indigenous’ brand)
Also, much more stronger and globally successful car manufacturers with a brand stronger than that of Maruti has entered post 2011. However, company’s market share has not been dented materially. It is somewhat hilarious to see global giants like Toyota, GM and Ford finding it difficult to compete with India-Japan JV player. But this is how it is. And it offers us lot of important lessons on auto businesses in general.
Let’s go back to our car & toothpaste example. Most of the answers we are looking for are embedded here.
We know that brand has lot more to do with automatic decision making situations than the appraisal based ones. So, what drives automatic decision making? They are
(i) Continuity of use: Higher the frequency of buying decision, closer it gets to our ‘reptilian’ brain or unconscious mind
(ii) Low ticket size: Lower value items are not where we spent sleepless nights thinking which product to buy. Loss-aversion behavior is low in low ticket value items.
(iii) Habit vs Novelty: We are creatures of habit. So, we do seek consistency. Situations which reinforce this need of ours generally gets an upper hand in decision making. Whereas novelty hurts habit forming process. This is one reason why parachute oil is sold in its trade marked blue bottles since decades. And so are the amul girl and parle-g boy not growing up.
(iv) Widely available: Products should be readily available. Stock-outs or travelling a couple of kilometers to buy my preferred brand of toothpaste only incentives me to try something else. And may be, convert
The above are just a few which can serve as good starting points. There is nothing known as ‘all inclusive’ atleast when it comes to investing.
Hopefully, you got a glimpse of what differentiates a stronger brand from others. Like the introductory para said, its never black or white. While there are degrees to which brands plays a role in different businesses, there are only a few places where its role is sin-qua-non. And it is those grey areas which sometimes can give us some sleepless nights. Probably this is why it said that investing is simple but not easy!
Next time if someone walks up to you and pitches a steel company because it is having a strong brand, change the topic immediately. You now know its not brand, its just a name. And name don’t drive return on capital employed over longer periods.