Use Brand As A Weapon To Lower Cost-of-Capital

Companies that understand and define B R A N D properly benefit from the ability to make brand produce growth and profit and reduce risk. A noble proxy for that triptych of favorable business outcomes is low cost-of-capital. When profit and growth are good and risk is low, cost-of-capital falls. Lower cost-of-capital generates more profit and growth investment, thereby lowering risk. As Jeff Spicoli might say, “It’s a righteous circle, dude.”

Brand is normally the largest single asset in a company. Yet, when most executives hear the word brand, they commonly equate it with Marketing, visual identity, or social media. When an organization defines brand too narrowly, it sacrifices its ability to direct brand investment to support financial objectives and forfeits tremendous opportunity.

Brand has more bearing than most people realize. I once heard a story about an oil company dealing with the stewards of a pristine forest under which there was a large oil field. The forest stewards were interviewing energy companies for extraction contract. The oil company was bidding to drill wells in the forest. A multi-billion-dollar deal was at stake. As part of the bidding process, the forest team met the oil company team, at a remote site in the forest, to discuss their drilling proposal. The meetings moved along well until the forest team asked, “What will you do to keep the forest clean and beautiful?” The oil team responded with an eloquent and flawless answer. Then, one of the people from the forest team explained that he had driven to the meeting, and had stopped at one of the company’s petrol stations to get fuel and use the bathroom. He then told the oil team that while he loved their answer to the question, he had a hard time believing it was sincere… because it was obvious to him that the oil company could not be trusted to care for something as insignificant as a men’s room. Brand matters in places you might not expect.

Financial Definition of Brand

Brand is the sum of all of the stakeholder-recognized investments that build an organization’s perceptual brand equity. So if a prospect, customer, vendor, partner, competitor, or employee gives it reflection, the investment matters to brand. Financially, brand is a portfolio asset — with monetary impact on the value of other assets, both tangible and intangible, much of which is measurable. Meaning, brand affects things like: talent, products, IP, sponsorships, distribution, and property.

Unexposed Brand Activity

Brand investment happens across the entire organization. Our research shows that Marketing controls about 20% of brand investment. Think of the obvious and common harbingers of brand: aesthetic, advertising, promotions, social presence. That’s the part we call visible brand activity. The remaining 80% of brand investment happens in places like Sales, Customer Service, Operations, Human Resources, Investor Relations, Research and Development, and Finance. The new call center, quality control measure, training program, and product are all brand investments. Each one has the power and potential to strengthen or weaken the brand. We call these investments the unexposed brand activity. Companies that only consider the impact Marketing activity has on brand contribution, miss out on 80% of the action. That’s a lot of potential to surrender without a fight.

Operational Investments Have Brand Impact

Every one of the operational projects — typically considered in isolation — that a company puts in motion influences its brand. Anything that stakeholders (like employees, customers, prospects, and partners) consider affects brand. Stakeholder consideration might be direct or indirect. It might be conscious or subliminal. But like the block chain, everything gets recorded for use later. At some point, perceptual brand equity drivers translate into specific behavior. Sometimes the behavior is prompted by positive perceptual equity, like the perception of luxury, value, innovation, or trust. In many businesses, those equity drivers trigger consumption, advocacy, or endorsement. Positive behaviors propel growth and profit and reduce risk. Contrarily, sometimes the behavior produced by perceptual equity is negative, like disengagement, distrust, or detraction. Negative behaviors cause effects like churn, hurting profit, hindering growth, and increasing risk.

Identifying Opportunities by Properly Defining Brand

New senior leaders in a national retailer hired a consulting team assess the current state of their brand. The retailer had grown and diversified and wanted to benchmark brand performance to measure future performance. The retailer wanted to write the narrative of their success, so financial measurement of brand was critical. The consulting team started by assessing how brand investments conveyed perceptual equity. There were surveys made, competitive analyses prepared, and old- fashioned ERP, CRM, and spreadsheet data rollups done. The consulting team then determined which specific perceptual equity drivers effected specific behaviors. To do that, they employed dynamical system modeling that allowed them to account for sensitivity to initial conditions. They also employed group and set theory to verify provenance between investment, perceptual equity generation, and behavior. Trust and Value were identified as primary perceptual equity contributors to behavior, which is significant because the value in the brand was not where it was expected. The work demonstrated that two of the retailer’s private-label brands were more valuable to the business than several entire divisions of the company. Product was contributing more to the business than distribution. With this knowledge, the retailer was able make a business case for investing more forcibly in the private label brands. The business case was approved and the organization has seen improvements in profit and growth and its cost-of-capital. Shareholders and employees have noticed. Share prices have improved and talent acquisition costs have decreased. The changes also earned industry recognition and awards.

Taking Risks Can Hurt Cost-of-Capital

Consider Chipotle, a brand that — according to statements in its SEC filings — knowingly lowered its health and safety standards to generate an image of social responsibility. The firm had been riding a fairly disingenuous campaign espousing the benefits of locally-sourced food and publicly advertised commitments to GMO and antibiotic-free food sourcing. In truth, the overwhelming majority of food served by Chipotle has always come from the same vendors that serve other national restaurants. At first, investing in the perceptual equity drivers for social responsibility generated positive financial brand performance for Chipotle. The outbound language Chipotle used created the perception of environmental sensitivity and social responsibility, and those perceptions drove engagement, endorsement, and consumption which lifted profit and growth. But the juice wasn’t worth the squeeze. Chipotle is now facing deep trouble deep after a string of food-borne illness outbreaks have slowed growth and smashed profit. Chipotle stock now carries additional risk guaranteed to increase their cost-of-capital, exacerbating its business challenges. There are two lessons here. First, never let the language you use outpace your capabilities. Eddie Wilson said, “Words and Music, Doc”. Harvard says, “Align your capabilities.” Second, never take unnecessary health and safety risks in the restaurant business.

Volkswagen is in a similar situation. It’s a value brand built on perceptual equity drivers like Trust and Precision. In this case, the company knowingly finagled software on their diesel cars so that they would pass emissions muster and were caught. Now they are in the headlines and they’ve lost trust and may have created disengagement with prospects and customers, including those that endorse the brand. After all, if BMW and Mercedes can build precision diesel cars that pass emissions inspections, why can’t Volkswagen? On the financial front, Volkswagen is preparing for billions in reparations and fines. The erosion of their hard-earned perceptual equity has impacted how the brand is considered by stakeholders — from employees who may want to leave the company, to customers, who might buy a Toyota instead. Volkswagen’s brand decision to circumvent emissions standards has jammed growth and profit and has made investing in Volkswagen riskier. That means that in addition to losses, their cost-of-capital will be higher, so digging out will take longer and cost more.

Manage Brand for Specific Financial Outcomes

Like asset managers, good brand stewards allocate assets to achieve the most efficient returns. To allocate brand investments scientifically, companies must consider the financial performance of brand through its investment cycle.

The Financial Measurement of Brand

Strategic knowledge, control, and discipline begin when companies are committed to isolating the attribution between brand investments and perceptual equity — on one side of the equation — and the provenance of perceptual equity and behavior on the other side of the equation. When measurements are made across the brand investment cycle, brand investments can target specific financial goals, improving the entire brand ecosystem.

Keep in mind, the greater portion of brand investment is not considered such. This truth provides both a challenge and an opportunity to inspired brand managers. Ask, “What is the financial value of aligning brand decisions to meet specific financial objectives?” The potential is prodigious simply because brand is huge. If the specific financial objective of branded investment is to lower cost-of-capital, the financial benefits scale by orders-of-magnitude — and feed into a virtuous cycle.

A low cost-of-capital is one of the most significant brand (read: business) advantages possible. Relative to competitors, low cost-of-capital implies superior: profit, growth, and levels of risk. A slightly lower cost-of-capital can save billions in interest, at the same level of investment.

Include Financial Brand Contribution in DCF Calculations

The more practical application of measuring financial brand performance is to understand its contribution to the business. Imagine a discounted cash flow projection that included the financial contributions to brand that the project would generate. Projects that once failed to meet the minimum acceptable rate-of-return look much better at the same hurdle rate. Once earned, the lower cost-of-capital will provide a new, lower hurdle rate. Projects once deemed dead, might be now prove irresistible.

Of course brand contributions cut both ways. Certain projects might be rejected due to negative cash flows from brand detraction. For example, consider the impairment to brand from a proposed new facility that could be perceived to endanger a natural resource, an at-risk species, or affect public safety. Negative brand returns may kill the project, but wouldn’t you want to know?

Companies cheat themselves when they define brand too narrowly. Leaders should understand and quantify the origin of brand investment and consider its financial impact on the brand. Ideally, financial objectives — and not guesswork — form the foundation of brand investment and business strategy. So what do you do with this broader definition of brand? Measure the contribution of your brand investments to the business. Benchmark the contribution of products, initiatives, talent, mergers, divestitures, and acquisitions. Reallocate brand investment to create efficiency and improve performance. Create objectives and key results to align effort. Craft KPIs to get you to the finish line. If you do, you’ll lower your cost-of capital and improve your business performance.