Brand Name Recognition
Coke, Pepsi, McDonald's, Hotels...

by George Runkle (TMFRunkle)

LAS CRUCES, NM (April 26, 1999) -- I compared a number of financial ratios from PepsiCo (NYSE: PEP) and Coca-Cola (NYSE: KO) last week. As we consider these two companies, another question pops to mind. Cola is just carbonated sugar water with some flavoring, so why can't somebody else sell the same thing cheaper? Looking around any grocery store we see there are other colas (usually including that store's brand) that do sell much cheaper. This has been going on for years, but still these Pepsi and Coke are market leaders. This is because they have acquired brand recognition.

As a further example of branding, I'll use a travel analogy. While visiting Florida on Sunday, my family and I ate breakfast at McDonald's (NYSE: MCD). While you may or may not like to eat hamburgers there, when you travel, you know the quality of the food will be consistent. Eating at "Sloppy Joe's World Famous Breakfast Haven" along U.S. Highway 29 is a little bit more risky. We don't know why Sloppy may be "World Famous" or what world he is famous in. So, it's safer to opt for McDonald's, where the brand tells us there is a consistency and level of quality in the food served.

Now tonight I'm traveling on business, and I'm spending the night in a Fairfield Inn, which is owned by Marriott Corporation (NYSE: MAR). Again, I know from the brand that Marriott has built over the years that I will experience a certain level of quality for the price I am paying. When I came out here to New Mexico the first time, I stayed in a motel the travel agent booked for me. I have to admit I've never been fond of staying in buildings made out of cinderblock (they remind me of the Army barracks I lived in many years ago), but I think the brown slime in the bathroom was what bothered me the most. I learned two things. First, travel agents are another manifestation of the Wise, and second, I'll always stay in a motel chain that can be trusted.

Brand name recognition is very hard to build up, and takes years of establishing a reputation. Coke built its brand by being the first cola, and both Coke and Pepsi built their brands up by superior distribution and advertising. The Marriott Corporation built its brand name up by strict quality standards (I worked in one of their restaurants in high school, and they were extreme), advertising, and marketing what the public wants.

When choosing direct investments (DRPs or DSPs), we're looking very long term, and we need to consider whether or not the companies we choose have strong brands. A brand name will bring a company out of the marginal profits of selling a commodity. Imagine if cola were sold as a commodity. The price-cutting would be cut throat, and the profit margins enjoyed by Coke and Pepsi would be nonexistent. Businesses that compete on the basis of their brands can build in more of a pricing premium, and can be more profitable. So, when we see the local Piggly Wiggly or Safeway is having a sale on their store brand soda, we don't need to worry that our holdings in Coke or Pepsi are threatened over the long term.

Since I'm getting a good first-hand experience with Marriott while traveling this week, I'll cover that company in next Monday's Drip Report.

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