Inventing the Brand Value-to-Market Cap Ratio

By Chris Marasco - August 31, 2012 | Tickers: AAPL, KO, MCD, NKE, DIS | 0 Comments

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You are likely an investor – perhaps a savvy one.  So you keep up to date on company earnings calls, earnings per share data, and all the right ratios.  And if you are a real overachiever, you can probably even recount all the executives’ salaries and how many stock options they exercised since 2010.

So let’s say that you are long McDonald’s (NYSE: MCD).  You know all the company’s fundamental data – but what is the company’s brand – those symbolic golden arches – worth to you as an investor?

Or take Disney (NYSE: DIS). You know the firm’s financial history and growth plans, but how much of the company’s market cap comes from that big cursive D?  Warren Buffett knew.  In his biography The Snowball: Warren Buffett and the Business of Life, it recounts that Buffett bought Disney because the stock was trading for less than the value of Disney’s Snow White brand. 

Investors: Looks like we need to dig in and become more well-rounded.

The Wall Street Journal published a unique piece a few weeks ago about different brands and their values, as measured by brand research firms Interbrand and Millward Brown.  Interbrand, for example, “employs a formula that uses a company’s financial performance and its five-year business forecasts as well as consumer surveys.”

Millward Brown “also has a lengthy process, including two million online and face-to-face surveys a year in more than 30 countries around the world.  In any given year, the company polls consumers on about 8,000 brands.”  (If you want to get really technical, you could read through the scholarly article "Valuing Brands and Brand Equity: Methods and Processes" from the Journal of Applied Management and Entrepreneurship.)

Now that we know the basics of how these companies come to their (non-) scientific conclusions, let’s dive in.

Why Brand Values Matter

Brand values as a percentage of market cap can help investors determine where risks and stock growth opportunities lie.  For example, let’s say that company XYZ has a market cap of $100 billion and that its brand is worth an incredible $20 billion, or 20% of the firm’s value.  What happens if the firm is BP and the company’s brand crashes and burns overnight – like it did during the 2010 oil spill?  Well, perhaps that $20 billion valuation goes to $5 billion – value evaporates – and the stock drops 15%.

Not good.

On the other hand, let’s say that the company has drastically overstated its earnings guidance and the company will earn 50% less than originally anticipated by analysts.  Eighty percent of the firm’s value is in more quantitative factors, like earnings performance.  So look for the stock to take a major dip if something like this were to occur.

So then – what makes a great company?  Two things.  First is a company that has a very strong, insulated brand and that would have a hard time tainting its image.  Apple is a great example.  It would take major executive blunders to hurt the firm’s image.  Second is a company in an industry with high barriers to entry and strong pricing power over suppliers and customers – these “moats of safety” will protect the company’s earning potential and growth rates.

Now we know what kind of businesses to look for.  To wrap up this writing, I’ll list a few of the company valuations as taken from the Wall Street Journal article and will add in the company’s brand value-to-market cap ratio.

Company Valuations

Nike (NYSE: NKE)

Coca-Cola (NYSE: KO)

Apple (NASDAQ: AAPL)

Disney

McDonald’s

If Millward Brown’s valuation is correct for McDonald’s, then the stock would need to appreciate 5.5% just to reach the value of its brand.  That doesn’t even include other fundamental and growth factors.  Likely the valuation is high, but it pays to be aware of these types of numbers.

Just as Warren Buffett bought into Disney because the stock sold for less than the value of just its Snow White brand, today’s investors can locate an undervalued (though potentially still high-priced) security by comparing the value of the firm’s brand to the company’s overall valuation.  It’s certainly not easy, but then again when has beating the market ever been easy?

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