Understanding Moats, Intangibles, and Brands

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2:13All right, folks. Welcome to Investing for Beginners podcast. Our friend Brett Schaefer from Chit Chat Stocks is back again with us to talk about moats and other fun things. So today we're going to talk about intangibles and brands. And this should be a fun conversation and super important category of things to know about if you're going to buy stocks. So Brett, welcome back to the show again. And talk intangibles and brands.

2:43Glad to be here. Yes, brands are something that beginning investors at least know something about. You've heard of these companies. They're going to be companies that you know pretty well. And I think it's very important to cover because you can get yourself into a little bit of trouble maybe by investing in brands since they are, as we'll maybe talk through, one of the weaker moats out there, although they still can be valuable. But when you find a promising consumer product category, I'm just looking at some of these most valuable companies in the world right now, Apple, Google, Amazon, when you find a high quality brand, you can also lead to some phenomenal stock returns.

3:20So interesting to talk about. yeah all right so when people think about moats would you say that a brand is probably the first thing that people if they're uninitiated to the markets and investing do you think that's probably the first thing that pops into their head a hundred percent i mean you see when someone's just giving their opinion as a lot of people tend to do about random stocks especially for someone like ourselves, if we mentioned we work within the industry, they'll say, well, I love, and I'm looking at this list here, Coca-Cola, Disney, because, oh, it's a great brand, storied brand, it's a fantastic company.

4:00And it's actually something that, and I'm not saying it's not important for your investing analysis, but it's something that people will use before they learn anything about fundamental investing, financial analysis, all of that. So yes, I think it's very common it's a really common reason why someone wants to invest in the company they go i'm always buying products from this company my wife my child whoever loves this company why don't i buy shares i'm not even going to look at the valuation sometimes that can work quite well but i think today we can bring some more analysis to the equation and provide some more value help people analyze brands in.

4:43Yeah. And I'm going to blame this. I'm going to blame this rationale on Peter Lynch when he would, when he talked about, you know, you should buy what you know. And most people associate what they know with a brand, Starbucks, McDonald's, Coca-Cola, Walmart, Disney, you know, all those companies are a brand. And most people, I think, especially as you said, new investors, they'll think, Hey, I love McDonald's. I eat there three days a week. You know, I'm not even going to look at the financials. I'm just going to buy it because it's such a strong brand. And maybe we could talk a little bit about why that can get people in trouble.

5:19Like how can that get you in trouble? Ooh. Okay. Let me try to go through an example. Well, you can get into times in the market. There are definite, I think three or four, maybe historical periods. We could be honestly living through one right now, but I think it's a little bit different today. We're kind of, it's a little bit of a different market. You have, for example, times like 1998 or 1968, where 1968, there was actually a very popular trend called the nifty 50. And the nifty 50 stocks were the new, a lot of more brands or technology players at the time. And this included some companies that have lasted to today, McDonald's, maybe not walmart then but possibly i think walmart we have ones like coca-cola philip morris uh procter and gamble companies like that i think disney as well probably mentioned them and they were considered yeah they were considered the blue chip stocks of the united states and people you know they had done so well in the past and everyone was saying and it was kind of this mindset of the investing community, there's no price too high you can pay for the nifty 50 stocks because they've done so well and they're such good companies.

6:38But then if you look from 1968 through, I believe the 80s, and especially if you exclude the tobacco companies, because they were so darn profitable that it actually made it for so many losses. But most of the nifty 50 stocks, even though they are great businesses, from 1968 for a long time there, their stocks underperformed the market. So you can get into trouble when you don't take into account, and you don't have to be some crazy analyst doing all sorts of numbers out there, but if you don't take into account a little bit of valuation work, a little bit of thought into whether a stock might be overvalued, then you can get into trouble looking at a high quality brand.

7:18and i also think you have to look at something like industry shifts which we've talked about a lot with moats where a wide moat business can get disrupted when an industry totally changes one that and i have a list here that will go through some of the world's most valuable brands one that pops up to here is kind of a smaller company with an extremely valuable branding is disney now they've underperformed for the last 10 plus years they've i think their stock's barely up and maybe total return a little bit higher. But still, it's been a very poor investment of the last 10 years. And part of the reason for that was one, the industry totally shifted and went to streaming and they've had trouble navigating that, especially when it comes to their sports properties.

8:03That's just kind of a big, they're still going through this industry change and we'll see what it comes out on the other side. And then second is management. Now, Warren Buffett had the quote and he actually got into trouble one time because Bill Gates said this in front of the Coca-Cola CEO. And he obviously, you know, found it insulting. He said, I want a business with such a high quality brand that's so strong that even a ham sandwich could run it. So basically run without any sort of management in place. Now, a company like Coca-Cola or maybe to a lesser extent Disney because there's some more creative stuff and they have a lot more stuff to manage for a company like Coca-Cola, maybe that is the case.

8:45but for a long time and this was before buffett bought it so when they were kind of mismanaged in the 70s and 80s is when they bought up a lot of stuff diversified it's when management can come into play and unnecessarily ruin the brand but they can take a lot of the cash coming in a lot of the earnings and waste it on vanity projects or buying worse assets or stuff like that and second from 1998 to today uh coca-cola i know i'm a little all over the place but i think the listeners understand from 1998 to today uh coca-cola has kind of been a poor performing stock because even though the brand was rock solid then the valuation was getting ahead of itself so i think the two things that people need to take into account are one valuation to management now if you have a bad management team that can really hurt you even despite a company being super strong and three industry shifts which they're harder to predict uh but you definitely need to pay attention to them.

9:42They definitely can be risks even for a high quality brand out there. But the key ones to really focus on and that I think anyone can analyze is, is the management team good? And is the basic valuation? Yeah, those are great examples. So that leads me to ask this question. Bob Iker gets a lot of credit, air quote credit for being a good CEO, but you could argue over the last 10 years, the company hasn't done well as by stock performance. So has he really been that good of a CEO this is completely getting off tangent but it is something that just kind of popped into my head just kind of yeah no hey look at the stock performance I think eventually that can tell the entire story and he has gotten paid quite a bit doing that my reading to this as someone who follows the company fairly closely is you know he made the Pixar and Marvel acquisitions Those were wonderful.

10:40They were pretty good prices and they went on a long run and really juiced both of those franchises. However, if you look at the last 10 to 15 years, they've, I wouldn't say totally botched, but very strongly botched. i would say the streaming transition uh even though they have quote-unquote lots of the subscribers revenue everything and they could still given how strong their brand is and that's where that competitive advantage comes from compared to other companies they have the ability to you know be mismanaged for five to ten years and still come out maybe stronger on the other side of things kind of get their act together um they totally mismanaged the streaming transition and they overplayed their hand in the superhero movies and I wouldn't say tarnished but everyone got tired of all these Marvel movies and that finally bit them in the butt so yeah I agree I think Iger was great and the last 10 to 15 years the results sort of speak for themselves performance hasn't been good and he's done some of that Howard Schultz stuff where he's left, come back, kind of stayed in control and yeah I think that's a great example of an executive mismanaging one of the best, as I have here on this list, the number seven most valuable.

11:59If you were looking at a company and, I don't know, pick one from your list and we'll chat about it for a second. Okay. Well, I'm going to go, let me just go through. There's some big tech ones we probably want to ignore. So the first five would be Apple, Google, Microsoft, Amazon, Facebook. but then we kind of have some smaller ones on here that actually punch above their weight market cap wise. We don't want to just make this market cap list. I have Coca-Cola, Disney, Samsung, Louis Vuitton, McDonald's, Toyota, Intel, although I think that one's probably falling, Nike, AT &T. Any pop out to you?

12:38Yeah, I was actually going to say Nike would be an interesting one to kind of talk through like how you analyze the company. Now, I'll admit, I don't know Nike all that great but if you were going to sit down and like maybe look at this company as a potential investment it obviously has a recognizable logo and you could argue it has a brand but how would you kind of try to assess the company because they're going through they're going through you know it right now and where they're going to come out on the other side you know hard to say but i guess what are your what is your take on nike and how would you kind of try to look at them from an analysis point of view.

13:17So looking at the competitive advantage, maybe historically we can say this is how you look at them and why the stock has done so well. You at first kind of see the industry and you go, apparel, honestly, not luxury apparel at all, except maybe you could argue Jordan, which is a little bit of a separate category for them. And you go, wow, they've dominated this industry for three to four decades. They have such high market share globally, and yet it's a very tough industry. One you could argue is commoditized, goes through huge different cycles, different trends, and somehow Nike has been at the forefront for a long time.

13:58Now, some of that's because of the atleisure growth over the last few decades. That has definitely helped them. But that would tell me their branding is so good, and that's such a strong competitive advantage that they're able to make up for being in this hyper competitive industry that sees huge booms and busts from all of these competitors. And then I would try to look specifically and ask, why do they have such a strong brand? And you kind of look back at maybe how their competitive advantage is formed. And it really started, in my opinion, with the signing long term contracts of very famous professional athletes, for example, Michael Jordan, LeBron James, basketball, especially important for them given the shoes and the fact that they have these athletes under exclusive contracts for advertising they're wearing the shoes from nike the specific one sometimes from you know michael jordan or a or lebron james that gives them a competitive advantage because well there's no there's no other michael jordan so adidas can't copy that no one else can copy that no one has the funds to copy that and essentially they sell a very consistent branding If you look at some of the best brands on this list, whether it is, and Toyota's on the opposite end, you know, Toyota is safe, efficient, clean, affordable.

15:18We're going to have a good car for you. That's not going to break down. That is their branding and that it's an extremely valuable brand, but it's a little bit different than some of the other ones. You have Apple, it consistently sells the best computer. That's kind of a status symbol. It's always a little vague what their brand is, but it's one that is essentially a very good product that is a status symbol for people. Nike is different. They, for a long time, sold essentially like athletic achievement and said, if you wear our shoes, you'll be just like the athletic heroes that you have. But if we fast forward to today, it's hard to maybe, and I don't know for sure what happened to Nike, but I think part of it is that i'm curious your opinion as well of what kind of happened to them to to kind of i don't know go through this rough patch um i think it's some of it is just the the democratization of the internet where they didn't have the control and distribution anymore and stuff like that but for whatever reason again i put nike kind of in my too hard pile because I'm not really sure what even happened to the company.

16:35For some reason, over the last 10 years, their brand has definitely weakened. It's still really strong, but that, I think, shows... The first 30, 40 years of Nike shows what a promising brand can do, but then the last 10 years kind of shows how weak competitive advantages from brands can be and how they can really sneak up on you without any warning. And you kind of go, oh, today, Nike's falling out of favor with people. I, I, you know, that's a great question. I, I agree with a lot of the assessments you were making. And I think some of it could have to do with, you know, I'm, I'm 58. So I grew up kind of in the heyday of, of Nike, especially for the athletes.

17:20And if you think about, you know, Michael Jordan was everywhere and the commercials. yeah the basketball you know i played basketball in in high school and in junior high and high school and you know at the time adidas was a big thing but nike was a big thing and jordan was becoming the guy and so my friends and i on the team we all wore nikes and it even became kind of a thing where you you know you couldn't play on the team unless you had nikes oh well that's in I think one of the best Advertisers for Nike ever Which is not the most famous movie out there But pretty famous sport movie is Friday Night Lights, it's not a Nike Advertisement but at the beginning they're at the first Day and there's one like younger kid That's wearing Adidas and then the Star running back says you can't Be playing with Adidas and the guy Before practice starts takes black Marker and makes it so his Shoes actually look like Everyone else's and that's pretty powerful branding, but I think it's then the internet that maybe democratized it.

18:27Well, for sure. And I think, you know, part of kind of what I was, you know, so you had the popularity of all those athletes. So you had to, you know, you had Michael Jordan, but it wasn't just Jordan. It was like Carl Lewis who won all those gold medals in the Olympics in the eighties was he wore Nike. And you, so you saw all of the, all these superstar athletes were all wearing Nike and I think the democratization of the internet more people having access to other options on the internet and I think also the company not really being aligned with the superstar athletes as much as that you know they still do but you don't have iconic guys like a Jordan or Carl Lewis and other people LeBron wearing their shoes you know Steph Steph Curry is not wearing Nike.

19:17Uh, so I think them losing some of those more iconic athletes today, I think help probably weaken the moat in the eyes of the people. Cause you know, everybody wants to play like, you know, they all want to shoot like Steph, right? And so if you want to shoot like Steph Curry, you're going to wear his shoes. You're not going to wear Nikes. You're not going to wear Jordans and try to play like Steph Curry. And so I wonder if some of that has to do with the deterioration of the brand as well. You may have heard about Bill as the loyalty program that lets you earn points on rent wherever you live.

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22:12Just a status symbol of it. I still put it as a... Yeah, and I also... I just have a hard time figuring out what happened to them. Maybe it was just another case of mismanagement. I'm no expert on this industry. I always say apparel is very, very difficult. And I'm just not sure. But one, I think, industry where branding is a lot more understandable, even if you're not immersed within that market, as I think a lot of listeners are not with this example here, is the luxury brands. And the ninth player on this list is Louis Vuitton, which is owned by a conglomerate, LVMH, which is just a lot of Louis Vuitton.

22:53I think Dior, Tiffany's. Yeah, Vuitton, Coq, Dom Pignon, all those people, yeah. Yeah, so they're ninth on this list here. And I think understanding their branding can be easier and it's easier to analyze because what they do is they almost sell. It's a thing about status, yes, but it's also a story of who you are when you're wearing these things or having this handbag, the type of person that has a Louis Vuitton handbag. and what's beautiful about the luxury branding products is that sometimes the higher the price the more attractive the product is to people which is an incredible position for these companies to be in so if i'm someone if i'm a listener to the show and i'm interested in branding i would read some of the books out there look at the companies within the luxury space because those are some of the masters of branding in the entire world you have hermes louis vuitton ferrari rolex all of those companies are quite quite good at convincing people that they need to spend ten thousand dollars on their their product that has a function of maybe two hundred dollars that's on the low end to the user yeah you guys had a you guys had a great episode with leandro talking about hermes a while back and you know he explained that whole idea of of of luxury and branding and why people pay those kinds of prices for one of those handbags.

24:26Yeah, the key thing and the way he talked about it was maybe story was some of the word like they tell the story, but it's almost the heritage of who you're connected to when you're a part of that brand. And that's why we kind of want to go back to one of these mainstream brands. Apple has that founder story of the creative genius of Steve Jobs. And that is what lives on to this day. It's like, okay, well, if you use these products, you can be a part of this legacy, the luxury products, same thing. You can be a part of this aristocratic legacy. And now if you give us$10 ,000 and we can make a 80 % profit margin on this purchase, well, you can also be just like these other people.

25:10And yeah, yeah, for sure. So why do you think branding A is the most recognizable and probably is one of the weaker? And so it's, it's, it's a kind of a duopoly there. Yeah. Like it's so noticeable. They go, Oh, cool. Cool. Great brand. Oh, uh, Nike, great brand. Um, I think it's just because you interact with them in your day-to-day life. It's something, if you're a beginner, you're going to hop into earlier where if someone like us says, well, you got to like this company because they have economies of scale and switching costs. And we maybe talk about this later, but they have this licensing agreement that makes it exclusive and people go, huh, that's too hard.

25:50I like this company because they have a great brand and I use their product every day. But what's dangerous, I think, is that branding is... I just think it's just hard to describe why it's a less solid of a moat compared to a switching cost from a software provider where I'm just so confident in some of these switching costs or economies of scale, for example, Costco, Amazon, Walmart in the retail space that dominate because of that. I really, let me just flip it around. When I'm investing in Amazon, which I don't know, but let's say I am, they have one of the most valuable brands on this list.

26:34Sure, that's just because they're one of the largest companies in the world, but I don't care if a lot of people hate that brand, which they do, but their economies of scale and competitive advantage that comes from being the low cost provider all of their scale and infrastructure and you know what everyone knows all in a while too well today i'm more confident that's going to stick around five to ten years where if i look at nike yes they have a valuable brand but it's really really easy to ruin a good brand if we take for example when coca-cola changed to new coke and the stock tanked they luckily reversed it but if they would have done that for one to two years could have ruined everything um and it's that much easier as opposed to an amazon to to do that and if we maybe even look at some of the most valuable brands you know or the tobacco players and cigarettes they have been such strong performers, but I don't know if the brand, the branding itself could be, you know, switched or sorry, tarnished the same way new Coke could have been.

27:43But the fact that they have the addictive nicotine factor in there makes them a little bit stronger. And that's kind of what you're banking on. Um, I know some people, you know, ethically don't like, right. Yeah. Yeah. And that's a great example. So why, no, maybe not why, when you're looking at a company and brand is part of their moat, how do you, how do you try to assess the company? So let's maybe take one that we haven't touched on. If you're going to try to assess a company like McDonald's, which has unquestionably has a moat and unquestionably has a brand, but I wouldn't say that their economic success is not necessarily correlated with their brand that closely and or it could be i don't know i'm happy to be wrong what are your thoughts on that like how would you try to assess the economic strength of mcdonald's does the brand play into that or not i think the way you'd have to look at it is pricing comparisons where historically mcdonald's is super low cost but now they've taken a lot of price in recent years and the fact that volumes are still somewhat holding up i think shows that they have that that strong brand again it's very very hard to discuss because someone could go well mcdonald's has a great brand and someone could go mcdonald's is a terrible brand and it's not something you can quantify where if i go again amazon has economies of scale everyone's gonna say yeah they do uh when i'm analyzing the company though i think if i don't see any other competitive advantage and then there's a ton of pricing power that is a huge indicator that there's some sort of brand attachment from consumers uh if we look at apple today they have other competitive advantages than their brand but back when the iphone was beginning it really was the branding that convinced people i could spend six hundred dollars on this phone versus three hundred dollars on another one and there had to be a reason for that so i think finding that can be a little bit quantitative or just saying hey look you know someone has an equivalent utility utilitarian option to take half the price for another product but they actually go for this other one i i think that just that that shows the branding is there mcdonald's maybe it's a little bit tough but it's so hard to quantify which i think makes it something i don't like to use when analyzing a stock because you can wake up one day and then just disagree with your your thoughts from another day or your gut feeling tend to just be entirely wrong yeah i mean it you know a restaurant for example is one meal away from you changing your viewpoint on whether you like it or not you have a bad experience you the food doesn't sit well with you you know multiple reasons and all of a sudden you're you're not you're not a fan and i think the thing for me is somebody who likes to look at you know qualitative stuff the idea of a brand doesn't it there's no line item on the balance sheet that says brand and so it's really hard to assign okay this i think we can all generally agree that this has a brand, this has a brand, but as far as like economic strength that you can quantify in the financial statements, it's, it's challenging.

31:16Uh, you know, like you said, there's pricing power, which you can see, but how long does that last? Is that an eternal thing? Is that, you know, not every company is a seized candy that can raise their prices, you know, 12 % a year, every year for, you know, ad infinitum, but, uh, it, it definitely doesn't show up on the balance sheet or the income statement or the cash flow statement very easily. I agree. Yeah. I think maybe coming back to the investing lesson, some of my favorites is when you have a strong brand combined with another competitive advantage, I don't own the stock. It's been a really, really great performer since it's gone public.

31:59You know, people now all I think are in a hundred percent conjunction. That's an incredible business model and that is Costco. They have now a very known brand. It's almost similar to the Toyota model where everyone understands their brand, the Costco brand. They know what they're going to get. They're very consistent at nourishing that brand. But they also have other competitive advantages that can lock customers in that can keep them insulated from the competition. And it's not just relying on the story they're telling to customers. It is that combination that can create such a powerful effect and such a powerful stock performance.

32:35Yeah, yeah, exactly. And ultimately that's really what we want. And that's why I think sometimes when people talk about brands, it can become washed in, you know, Coca-Cola is always the prime example of a brand and it certainly had a heyday. But now if you invest in it now, you probably are not going to see the same kinds of returns you may have seen when Buffett bought it back in the 80s. And so sometimes it's living on its history and it may not be a great investment now. Yeah, I totally agree with that because saying Disney is a great brand, it's a known brand. Coca-Cola is a great brand, it's a known brand.

33:19That's something that I think beginning investors will say to you, but that's almost telling you, well, the historical stock performance has done phenomenal, but it really has only a minimal, it's only a tiny factor in what the forward returns are going to be, which is what we care about because management comes into play, industry dynamics come into play. For example, Coca-Cola for decades and decades and decades, there was rising global volumes. Now we're seeing that slow down tremendously in the 21st century. you can't just ignore that when making your investment analysis, even though I would argue the Coca-Cola brand has been rock solid since 1998.