Assessing international brands

- Platinum Asset Management


The most attractive cases are where the brand is strong and has been managed over years rather than quarters, and where the share price is languishing for transitory reasons such as the predilections of the equity market, or perhaps a self-inflicted period of adjustment within the company, for example, disruptions associated with building new factories or distribution networks.

It can take time for these transitory factors to resolve, sometimes requiring a degree of patience and almost certainly extending beyond the rather short term and arbitrary quarterly measurement. Unfortunately with the advent of superior data systems, but not necessarily superior information systems, there is a tendency on the part of management to be overly focused on the quarterly measurements, be that financial or operational. Although quarterly measurement and scrutiny can instil a sense of urgency, something we lament lacking in some of our Japanese investments, there is quite often the unfortunate misallocation of resources in the pursuit of short-term targets.

A strong brand, having temporarily deviated from the long-term plan to pursue a short-term objective, can often provide an interesting investment opportunity if only we can see beyond the focus on near-term metrics.
Platinum believes that such an opportunity exists with Bayerische Motoren Werke G.m.b.H., otherwise known as The BMW Group.

In recent years management has been addressing two key concerns as they position the group for the future. Their foremost concern was one of scale, addressing the conventional wisdom of the industry that scale leads to cost competitiveness. Henry Ford had a thing or two to do with creating the “group think” on that, although it’s a little hard to hold him accountable for the more modern but futile attempts to capture efficiency through acquired scale; BMW with their failed attempt with Rover, and Daimler with Chrysler.

More recently BMW has achieved a broadening of its range to include smaller vehicles such as the Mini and the Series 1. There has also been no doubt that the group has been intent on increasing market share, particularly in the US, and in many respects has been tremendously successful. The rather unfortunate outcome of both of these successes, the broadening of the range and successful pursuit of volume, has been the cost to profitability.

Average selling price per vehicle dropped for the Group over the past six years despite an overall growth in sales from 29 billion Euro in 2000 to over 50 billion Euro this year. The added cost of discounting in the pursuit of volume based fleet sales has also impacted probability. In 2000, the highly profitable 3 and 5 series accounted for nearly 90% of the business, now they are closer to being only half of the revenue with lower levels of profitability being achieved from the smaller vehicles introduced to the range.

The second pursuit of management has been in meeting consumer demands (perceived, legislated or otherwise) through significant expenditure in R&D and capex. Again this can be counted as a huge success as, for instance, a review of the reductions in carbon emissions achieved and under way are impressive. The BMW brand cannot stray too far from its luxury performance heritage so must find ways to meet emission standards without compromising the brand. Likewise the group invested heavily in meeting the needs of members by allowing for a high degree of customisation and at times quite late in the manufacturing process. The expenditure has been significant, 6 billion Euro last year or 12% of sales and the impact on profitability noticeable. To express it another way the amount spent on R&D and capex last year was 1.5 times  the operating profit achieved and it has been at levels close to this for several years!

The consequences of pursuing the ‘growth strategy’ of the past few years has been a decline in profitability to the point of being unacceptable by any sensible comparison, especially for a premium brand. Clearly the Quandt family shareholders felt the same way, which led to a change in CEO and a redeployment of other senior management including the CFO.

Most noteworthy has been the restructuring of procurement into a new division with a new head appointed. It would not seem to be a logical or sustainable proposition that the returns from owning the BMW brand are lower than those of the parts suppliers. The relationship looks set to become a lot less cosy for the suppliers with some 4-6 billion Euro in prospective savings. It is also our experience that gains from procurement can at times be achieved rather more quickly than expected, particularly when given such a high profile.

There is little debate that there are abundant opportunities for BMW to sell its vehicles, be that from a low market share position in the US or as a premium product into emerging markets. The opportunity for investors is that management is in the enviable position of having a strong brand and robust sales whilst they attend to some housekeeping on the costs. A healthy balance sheet also provides a degree of flexibility. By contrast there are many that find themselves in the unenviable position of needing to redefine their objectives whilst contending with lack-lustre or even dire sales prospects.

Platinum funds are available through a platform such as OneAnswer. For more information please call NZIJ Stockbrokers on 0800 90 60 90 or 04 499 3592.