Measuring marketing - the value method (Accountancy SA)

It’s quite possible that financial people are immune to the tension that marketing staff live with in their dealings with financial management. Marketing plays a vital role in the life of most companies. In fact, according to a survey conducted in late 1999 among financial managers of leading SA companies, marketing was ranked top of a list of functions that impact on the organisation’s long-term profitability. It was placed ahead of Research and Development (R & D), Production, Information Technology (IT), Human Resources and Training, Accounts and Administration. Not only that but the respondents also said that marketing was mentioned to a greater extent in their annual reports than any other company function.

By contrast the survey also found that marketing, apparently so important to the health of the company and sufficiently influential with investors and analysts to warrant extensive treatment in the chairman’s and chief executive’s report, was represented on the boards of the sample companies in only 29% of cases.

This is an old problem. Company managers know they need a marketing function to ensure their products and services are bought and used by an expanding body of consumers. Marketers have failed to convert the way they do this and how they allocate the budgets they are given, into a language comprehended and understood by financial management. Instead they talk of opening up new market opportunities, extending the existing product line, modifying attitudes, building awareness, and gaining distribution. These are all valid objectives and are what marketers are trained to do. But it is rather like the production director explaining in detail how the machine will work, rather than tabling numbers that show how it will contribute to productivity, and will, over its useful life, produce a positive Net Present Value (NPV).

It is a sick joke among marketers and a guarantee of a glum snigger of agreement to talk of management first attacking the marketing budget when profits are squeezed and costs must be cut. Over many years this lack of understanding, that leads the MD to suggest that nothing could surely be lost if a few TV spots were cancelled or the research programme was delayed until the new budget year, has created a crisis of confidence in the marketing fraternity.

Two recent developments might alter these conditions: the new accounting standards dealing with intangible assets and acquired goodwill; and the recent emergence of financially based brand measurement tools.

These two did not develop independent of each other. In fact they both arose from the same circumstances: the abnormal merger and acquisition activity of the 1980s when huge premiums were being paid for companies that owned valuable brands. Arising from this was the perceived need to feature brands on the balance sheet, as an alternative to writing off the acquired goodwill against reserves which, in turn, brought about the advent of sophisticated brand valuation methodology.

As a direct result of companies placing acquired brands on the balance sheet, the International Accounting Standards Committee (IASC) initiated a process in about 1989 which, in South Africa’s case, resulted in new standards dealing with Intangible Assets (AC 129), Acquired Goodwill (AC131), and Impairment Reviews (AC128). The methodologies to estimate the values of these intangibles developed in parallel.

While the standards that resulted from the IASC’s work are ambivalent and paradoxical in their treatment of some intangibles and brands in particular, they are a step forward to ensure that the extant focus on brands and marketing in the commentary part of the annual report is carried through to the financial section in the second half.

Since expenditure on marketing is frequently greater than the allocation for capital projects, and is often on a par with staff salaries and wages, management should insist on better reporting metrics. The difficulty of reducing the complexities of marketing to single figure measurements that properly reflect its achievements and failures is central to why this has not been the case.

The advent of brand valuation methodologies that encompass both sound accounting and marketing inputs, within a robust financial framework, makes this possible.

Most marketers now accept that their work should be focused on adding shareholder value, and that the best way to measure this is by evaluating the contribution they make to increasing the values of the brands over which they hold stewardship. This requires a sophisticated approach to the evaluation that is acceptable to both marketers and finance people. Hence the methodology must combine both finance and marketing in a single model.

Typically the finance component is based on the brand’s ability to generate future economic benefits, after tax and over and above the cost of capital. A device is used to separate the brand portion of profits from those generated by the business as a whole. The excess profits are projected into the future to capture a franchise run period and a period of decay during which the profits decline until they intersect the cost of capital. The marketing inputs are influential in determining the length of the franchise run and the brand expected economic life.

The power of this type of approach is that the preservation or enhancement of the brand value becomes the goal for marketing to achieve. Regardless of what marketing methods brand management use to achieve this the efficient use of their budget allocation is judged by reference to the asset and the value they add. This makes it possible to apply tools such as Net Present Value (NPV) and Return on Marketing Investment to assist in budget and strategy decisions. It also becomes a powerful investor linked measure of marketing effectiveness.

Because of the anomalies of the new accounting standards brands are not yet recognised as assets by accountants; unless, that is, they are acquired and the value can be reliably established. That does not mean that brands cannot be included in the accounts, off balance sheet, and used to illustrate the intangible value that the company has created. Even if contemporary accounting theory is not yet ready for this, the investing community and capital markets are. The premiums they place on companies in excess of net tangible value are clear evidence of this.

Brand values should become an area of common interest for all sections of company management. They will introduce new and sensitive measures of what marketing is asked to do and how well it does this. Brand valuation is a tool understood and respected by the investment community, and in time it will become integral to the annual audit as it becomes a requirement for the value of all the company’s assets to be assessed. It will also allow marketers to sleep better at night.

Roger Sinclair is Professor of Marketing at Wits and MD of BrandMetrics (Pty) Ltd.