The Power of Brands
Investing in the most reputable brands
Products are made in the factory, but brands are created in the mind. — Walter Landor
Michael Platt, director of the Wharton Neuroscience Initiative, conducted a fascinating brand-loyalty experiment where he and his team evaluated the brain activity of Apple and Samsung smartphone users. The test was to evaluate how users think and feel about the brands that they use.
Using an MRI machine, the team measured users’ brain activity to good, bad, or neutral news about Apple and Samsung. Apple customers showed an emotional empathy response to Apple that was identical to how somebody responds to hearing news about their own family. They were happy when news associated with Apple was positive and felt sad when it was negative.
On the other hand, Samsung users had no positive or negative responses to news about Samsung. Ironically, they showed a reverse empathy towards Apple — when Apple was associated with negative news sentiment, Samsung users felt happy. In their defense, Samsung users did not report feeling the results shown in their MRI. What they felt and the results measured using the MRI were completely different.
Apple has completely defined the market here. Samsung customers, it seems, from their brain data, are only buying Samsung because they hate Apple. — Michael Platt
Buffett intuitively understood this decades ago. In his 2007 letter to Berkshire Hathaway shareholders, he highlighted the power of brands in building an enduring business.
A truly great business must have an enduring “moat” that protects excellent returns on invested capital… a formidable barrier such as a company’s being the lowcost producer (GEICO, Costco) or possessing a powerful world-wide brand (Coca-Cola, Gillette, American Express) is essential for sustained success.
Why Brands Matter
In an economy where 70-80% of a company's market value comes from intangible assets like brand equity, intellectual capital, and goodwill, having a great brand is a superpower.
Top brands can attract and retain better talent, charge higher prices, have more loyal (and vocal) customers, and face lower threats from entrants. While most of these are obvious, there are some hidden benefits to having a great brand.
Lower cost of debt: A strong brand reflects reputation and stability, providing a lower risk to the lender. When Brand Finance evaluated the average interest rate paid by the companies, they consistently found that stronger brands pay a lower interest rate on debt than weaker brands1.
Risk premium is the effective interest rate companies pay over and above the risk-free rate. Leading brands may be undervalued: Under current accounting principles, brand value is not included in a company's balance sheet. So, even though Apple spends billions of dollars on branding (considered an operating expense), it does not appear as an asset on the balance sheet. In addition, it’s difficult to value companies with strong brands accurately as they can easily market new products by leveraging their recognized brands. (Case in point — Apple just sold 200,000 Vision Pro headsets priced at $3,500 in 10 days!)
But there is a big difference between great companies and great investments. A strong brand can also cause investors and analysts to be a little too optimistic and push valuations to unsustainable levels. Given that we go out of our way to select certain brands over others, should we do the same for our investment?
Should you invest in superstar brands?
To test our hypothesis, we created a best-brands portfolio leveraging the 2012 Global RepTrak 100 list. It ranks the top 100 most reputable brands globally based on consumer inputs from 15 countries. To give you a flavor of the companies, the top 3 were BMW, Sony, and Disney.
To create the portfolio, we removed the private companies and those not listed on U.S. exchanges. Our final portfolio had 39 companies (data sheet attached at the end), which we used to create an equal-weight portfolio. We then benchmarked the performance of this portfolio against the S&P 500 equal-weight ETF.