Brands versus Franchises

Thursday, October 20th, 2005 | Investment Philosophy with 7 Comments

I discovered an interesting conversation occurring over at the Applying Value Investing Principles in Indian Context blog. The discussion concerned brands and their relationship to franchises (i.e., profitable businesses).

I often look for a strong brand when determining if a company has a wide moat. The discussion I just read lead me to a question. When do strong brands not lead to a franchise?

Strong brands can often give companies strong sustainable competitive advantages. A business with a strong brand is often also a franchise, but there are many examples when this is not the case.

Here are a few of my observations of when a strong brand does not lead to a franchise/wide moat:

  1. Brand names are not important with commodity items. No one really cares what brand of electricity, coal, airlines, or sugar they are buying. You just buy the cheapest one.
  2. Industries with too many brands and too much capacity often don’t lead to strong franchises. Here you can probably think of automobile brands, bicycles, and appliances.
  3. Brands of frequently purchased items are more likely to lead to franchises than those of long lasting capital goods. I think the key here is that you are more likely to be brand loyal with low cost items, since it takes too much effort to research alternatives each time you buy them. Long lasting goods are purchased less frequently, often cost a lot, and you are therefore more likely to take the time to carefully consider your options before purchasing.

This is a rather interesting topic that I’ll have to think about a little more. I’d like to build a list of criteria by which to determine whether a brand will lead to profitable business or not. The three items above are just a start.


Comments

  • There’s oneobservation I’d like to make. Professional services that have an element requiring a relationship. Like accountants, dentists and lawyers have special issues.

    Here, the relationship is either highly fragile or rock solid and is usually in the fragile zone. There’s little middle ground in many cases. If anything, there is likely to be indifference on the grounds there is little differentiation.

    That certainly seems to be the case with most accountants in practice I speak with. And it is very difficult to get them to shift their thinking. But there are significant competitive pressures, especially in the the area of commoditised accounts preparation, audit and tax calculation. So wherer does brand and franchise start and stop for these people?

    So the thing here is to create and develop the relationship at an individual level but in such a way that it is associated with the brand.

    Dennis Howlett November 1st, 2005 at 12:50 am
  • As for number one, there is a small, but growing, demand for “green” energy” branded electricity. Green Mountain Energy of Austin, TX is an energy producer dealing in Wind and other renewables and it’s certainly a “brand” that people choose – at a premium. It’s been very succesfull and is growing rapidly.

    Airlines certainly used to be extremely strong brands. These days that’s less so. Among those who travel a lot.. airline brand is still something they identify with, but indeed, the bulk public is seldom aware.

    Nice post btw!

    Nick November 3rd, 2005 at 3:17 am
  • Love the blog, glad I found you off Phil’s site. I look for three main things in a strong brand: consistent delivery on their brand contract (remember the New Coke fiasco?); sacrifice (Volvo owns ‘safe’ but not ‘speed’ while Subaru owns ‘AWD’); shock and awe (Nordstroms will actually send business to a competitor if that will wow the customer with superior service).

    Matthew Turner July 20th, 2006 at 1:46 am

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