Every long-term investor dreams about investing in companies with durable competitive advantages. However, with over 15,000 companies traded publicly, it can be difficult to separate the wheat from the chaff.
In the article, A Formula You Can Profit From, I explain the linkage between pricing power and profit. Having unique selling point is crucial, but sustaining pricing power is complex, and few companies have been able to do it. Fortunately, there is an indicator more accurate than margins and sales to find these companies. What is it? Brand loyalty.
Brandishing loyalty
Every day we purchase certain products despite the availability of cheaper, and better alternatives. Economics tells us to buy the product with the highest marginal utility, but consumers don't always pursue such a complicated analysis. They stick to brands. A brand represents an assurance of quality, and provides us with a similar experience time and again.
With brand loyalty comes pricing power. With pricing power comes profits. They only question left is, how you do find brand loyalty? The answer is simple: Look around you.
Your friends and family routinely use products they love and would not willingly sacrifice. If you're having trouble thinking of some, here are four companies whose brand loyalty has led them to a durable competitive advantage:
Apple
It's difficult to have a conversation about brand loyalty without mentioning Apple (AAPL -0.35%). Its stylish and easy to use products have captured the hearts, and wallets, of millions of consumers. As mentioned previously, 91% of existing Apple customers plan to stay with the company when the time comes to upgrade their existing device. High brand loyalty in a competitive marketplace puts Apple one step ahead of competitors.
The best part about Apple's brand loyalty is that it's infectious. The word-of-mouth of Apple's "fan boys" have convinced consumers that their products are the best. A recent survey suggested that twice as many people plan to make their next smartphone purchase an iPhone rather than an Android device. If Apple is able to capture these new users, current trends predict that they will capture their loyalty and the pricing power and revenue that comes with it.
While Google (GOOGL 10.22%) has yet to master brand loyalty among Android users, it commands brand loyalty among online searchers. Bing? Yahoo? For most of us, we would have to check our history to figure out the last time we used an alternate search engine. Google owns about 81% of the desktop search engine market.
In Google's core business, more traffic means more money. Advertisers pay Google in exchange for placement of ads on one of Google's many sites. This is where Google gains its pricing power. As long as consumers turn to Google for information, marketers will be willing to pay for targeted ads.
As more consumers turn to mobile devices, they continue to use their favorite search engine. Despite a falling CPC (Cost-per-Click) Google controls 96.9% of the mobile search market. High market share will continue to boost Google's 19% year-over-year revenue increase. As long as Google remains the favorite brand for online searches, it will retain its valuable pricing power.
Microsoft
Tech analysts love to bash Microsoft's (MSFT 1.82%) latest operating systems. Vista flopped, and Windows 8 has failed to impress. If my math is correct, that means Windows has not released a "successful" operating system since 2010, when Windows 7 was released. Yet, in spite of these major disappointments, Microsoft still controls 92% of the desktop operating system market share.
This phenomena illustrates the fact that brand familiarity can be a stronger prediction of future purchases than actual performance. At some point customers will upgrade their operating system, and Microsoft will be waiting, flexing its pricing power. Sporting a 34% operating margin, Microsoft will continue to leverage its market share for profit.
Coca-Cola
What's the first soda Americans turn to? You guessed it, Coca-Cola (KO). Moreover, given that a whopping 94% of the world's population can identify the Coca-Cola logo, it arguably boasts the strongest brand loyalty worldwide.
Demand for soda has steadily dropped in the United States, but Coca-Cola shouldn't be worried. In addition to steady growth in emerging markets, the company owns over 400 brands to complement its namesake including Dasani, the second largest seller of bottled water in the US. As Coca-Cola loses customers in its soda business, it will pick them up again in the water market.
To get a sense of Coca-Cola's pricing power, take a look at its volume. The company sells the equivalent of 1.8 billion servings of drinks a day. If it raised its prices just one cent per serving, the company could increase its revenue by $18 million a day. As long as Coca-Cola remains loved by consumers, its competitive advantage will provide a safe haven for investors.
Get branded
Invest in brands that captivate people. Brand loyalty enables pricing power, which translates to long-term profits. To find these companies, pick your head up and take note of the preferences of people around you. The brand loyalty has led these companies to long-term profits, can also lead your portfolio to flourish.
