Marketing Information for Decision-Making in
Financial Industries
Master Thesis
For completion of the master
Business Administration, specialization:
Marketing Management
Date: 29
thof December 2009
Author: Sjoerd Vlek
Student number: 1404172
Summary
Recent discussions addressed the general lack of financial accountability of the marketing field, which motivated scholars in marketing science to uncover relations between marketing activities and firm performance. As a result, with the advancement in concepts, frameworks and analytical techniques, there are opportunities for the investment community to leverage this knowledge in order to improve their decision-making.
‘Customer satisfaction’, ‘brand equity’, ‘customer equity’ and ‘new product
introductions’ are the specific marketing concepts of interest in this study. As each of these concepts have been scientifically proved to be significantly related to firm
performance and shareholder value, specific measures of these concepts would be useful for outside investors and financial analysts to enhance valuation of firms. The central aim of this research is to investigate to what extent this value relevant marketing information is used by and familiar to the financial community, and how the use of this information can be enhanced.
To investigate to what extent and in which form value relevant marketing information is available to outside investors, corporate reports of several Dutch and German listed companies have been analyzed. Furthermore, qualitative interviews with investment professionals have been conducted in order to find out which information is used in company valuation, and to what extent non-financial information (in particular the concepts from the marketing field) plays a role in this. Finally, an overall assessment of the marketing concepts (e.g. customer satisfaction) is performed, and recommendations are given to enhance the use of this information in the future.
To enhance the use of marketing information within the financial community in the future, the following recommendations are given: standardize the measures and improve disclosure of non-financial information in corporate reports. Furthermore, the
Preface
When I first started thinking seriously about writing my thesis, I was very optimistic and planned to finish it in a couple of months. I had seen many fellow students
struggling in the process, and that would surely not happen to me. This initial high level of self-confidence disappeared quickly when I woke up one day and found that I had not even determined my subject for the thesis after three months. Fortunately, after a first meeting with my thesis supervisor I became motivated again to complete this last phase of my formal education.
I would first like to thank my girlfriend Rieke for her patience, as I broke my promise to graduate and find a job in 2007. I want to thank my parents for their support, and giving me the opportunity to follow this education. Finally, many thanks to my
supervisor dr. Wiesel for his guidance and knowledge-sharing. Our meetings were short, but powerful.
Table of Content
1. Introduction……….. ………... 7 1.1 General Introduction………. 7 1.2 Problem Statement……… 9 1.3 Relevance………... 9 1.4 Thesis Structure……… 11 2. Literature………...……….. 12 2.1 Conceptual Model……… 122.2 Firm Value through Customer Equity………. 13
2.2.1 Customer Lifetime Value……….. 13
2.2.2 Customer Equity……… 14
2.3 Financial Performance through Customer Satisfaction………. 15
2.4 Firm Value through Brand Equity……… 17
2.4.1 Brand Equity……….. 17
2.4.2 Brand Equity and Shareholder Value……… 18
2.5 Firm Value through New Product Marketing……… 19
2.6 The Influence of Marketing Investments on Performance and Stock Prices………. 21
2.7 Summary……….. 22
3. Research Design……… 24
3.1 Availability of the Information………. 24
3.2 Metrics Used by Financial Community……… 27
3.3 Assessing the Knowledge………. 29
4. Results……… 31
4.1 Availability of the information………. 31
4.2 Information used by the financial community………. 34
4.2.1 Analyst Reports……….. 34
4.2.2 Interviews with Investment Professionals…………. 34
4.3 Overall Assessment of the Measures……… 39
4.4 Recommendations: Facilitating the Knowledge………. 43
4.4.1 Discussion of the Individual Concepts……….. 44
1. Introduction
1.1 General Introduction“The purest treasure mortal times can afford is a spotless reputation”. With these
words, English dramatist William Shakespeare (1564-1616) already recognized the importance of the marketing field in the late 16th century. During the last decade, about 400 years after this famous quote, a common debate in the corporate world addresses one simple question: does marketing really pay off? According to Zinkhan & Verbrugge (2000), the major reason for this debate is that marketing scholars hardly address the issue of shareholders’ wealth. The practical application of essential finance models like for example the ‘return on investment’ (ROI) model remains very rare in the field of marketing, resulting in the fact that most top managers still view the marketing discipline as financially unaccountable (Rust et. al 2004). The Marketing Science Institute even announced in 2002 that proving the financial accountability of strategic marketing has been given top priority for the coming years of research, so it is no surprise that leading scholars in marketing research have been focusing more on finance aspects in recent years. A recent study by Verhoef & Leeflang (2009) showed that the position of the marketing department in terms of influence has weakened because of this lack of accountability, indicating that it is still a serious problem for the marketing field.
Top managers need to know how the use of marketing and its different corresponding strategies affects the value of the firm. The last years of marketing research gently responded to this knowledge gap: valuation based on customer lifetime value (Gupta et. al 2004), the association between customer satisfaction and long-term financial performance (Anderson et. al 2004) and the influence of an increased value of the customer base on the market capitalization of a firm (Kumar & Shah 2009) are just a few examples of research topics aimed at proving the financial worth to a company provided by the field of marketing. Several useful marketing models aimed at
understanding the link between customer, brand and product metrics and financial value have been developed and a lot of research is still being conducted.
between the marketing and finance department of a firm disappear. Given the recent academic evidence on the link between marketing concepts and a firms’ financial value, the opportunity arises for both the marketing and finance professionals of a company, to collaborate more extensively in order to optimize decision-making of their firms’ management and ultimately, achieve maximum shareholders’ wealth.
Zinkhan & Verbrugge (2000) explored the so-called ‘marketing/finance interface’ and found that the two disciplines can and should be viewed as
complementary. By leveraging the knowledge from the advancement of marketing models, frameworks and analytical techniques, financial managers would benefit from using value relevant marketing information beside their original financial information and models when valuing a firm or investment. An extreme view by Amir & Lev (1996) stated that in certain industries, financial information (e.g. earnings, book values, cash flows) is far less important than non-financial information (e.g. market penetration) with respect to indicating company value.
The recently growing interest in non-financial information, like marketing based concepts and metrics, has generally resulted in an increased demand for disclosing such information in corporate reports. As the information assists decision making by outside investors, firms should report forward-looking marketing metrics that align with corporate goals and investors’ perspectives (Wiesel et. al 2008). Hence, as many value relevant marketing information is more and more used internally, it should be made available to external investors as well.
Now that a substantial body of research is available, the question arises to what extent the financial community is actually aware of the opportunity to extend their tools in order to improve decision making. Are financial managers actually using this critical marketing knowledge when valuing investment projects? A survey by Graham & Harvey (2001) showed that 75% of the financial investment firms always exclusively use the ‘net present value’ and ‘internal rate of return’ method to evaluate projects. Has anything changed since then, now that alternative non-financial measures and models are available to complement these dominant financial tools?
Several researchers have pointed out that marketing is losing credibility through the perceived lack of accountability (Rust et. al 2004). The marketing field therefore must show that it has strategic worth and is capable of supporting a company’s CEO to drive growth and profitability (Kumar 2004). The implementation of marketing
goal of improving the field’s standing in the firm. To realize this implementation, critical market-based knowledge that should be used by financial managers must be identified. Furthermore, an effective way of facilitating this knowledge must be developed.
In these turbulent times, when customer-centricity is becoming the core value of the company once again, there is a great opportunity for marketing to reclaim its seat at the boardroom table. This paper aims to contribute to an increasing role of marketing within the financial community by exploring how financial managers can optimally benefit from value relevant marketing research information.
1.2 Problem Statement
The situation described above leads to the following central problem statement:
“What critical marketing information exists that the financial community should use to value companies in order to enhance their decision-making? How can this knowledge be effectively and efficiently facilitated within the financial community?”
Addressing the following side questions will support the answer to the central statement:
- Which useful value relevant marketing knowledge exists in the literature? - To what extent is this marketing information externally available?
- What information and models does the financial community currently use for
assessing potential investments?
- What are the advantages and disadvantages of using marketing knowledge
for investment purposes?
- How can this marketing knowledge be delivered?
1.3 Relevance
This research will have both scientific meaning and practical implications. First, it will contribute to the existing literature by providing more insight on what value relevant marketing knowledge has been acquired over the last decade. Through the assessment and structuring of the different models and information, several available alternative valuation measures from the marketing field will be analyzed on their usefulness to investment professionals. This builds further on a recent study by Srinivasan & Hanssens (2009), who structured and assessed similar marketing knowledge on their ability to create shareholder value. The marketing/finance interface researched by Zinkhan & Verbrugge (2000) will also be further explored in this thesis; specifically, the opportunities arising from the intersection between the two disciplines with respect to valuation will be examined. Recommendations will be provided on how to enhance the use of marketing knowledge by the financial community, thereby improving the collaboration between the two fields with respect to measuring firm value and performance.
The fact that many research about financially accountable marketing measures has been conducted lately, proves that the subject of this thesis is important to
marketing science. The research in this paper deviates from previous research on this subject, in that a wide body of marketing knowledge is being analyzed and examined with respect to practical relevance, accessibility and efficiency for the financial community. Results of this research may also provide directions for further development of market-based models for investment valuation.
experts in the marketing research field. Cooperation and coordination between marketing and finance departments in investment firms may ultimately be improved, supporting a more horizontal organization.
1.4 Thesis Structure
2.
Literature
2.1 Conceptual ModelIn order to start off the discussion of the relevant literature, the conceptual framework is outlined in this section. The model displays the relationship between marketing
investments and a firm’s financial value and the concepts that are going to be investigated in this research with respect to the marketing-finance interface.
Figure 1: Conceptual Model
chapter is to provide an overview of these different marketing concepts that play a significant role in the enhancement of company value.
2.2 Firm value through Customer Equity
2.2.1 Customer Lifetime Value
Before discussing customer equity as a metric, one first has to understand the concept of Customer Lifetime Value. Customer lifetime value (CLV) has become an essential metric to support the acquisition, growth and retention of the most profitable customers (Venkatesan & Kumar 2004). CLV models were therefore initially popular in
relationship marketing. The specific appeal of CLV lies in its ability to enhance customer relationship management with a firm’s most profitable customers through its support for appropriate marketing interventions (Villanueva & Hanssens 2007). Berger & Nasr (1998) define CLV as ‘the excess of a customer’s revenue over the costs of attracting, selling and servicing that customer over time’.
The various components of CLV that are used in the basic formula include purchase frequency, contribution margin and marketing costs. These various
components may however vary across different industries. A typical formula for CLV would encompass a function of the predicted contribution margin, the propensity for a customer to sustain its relationship with the firm (customer retention) and all the marketing resources allocated to that customer (Venkatesan & Kumar 2004).
The CLV model was extended by Rust et. al (2004) by addressing the effects of competing brands and thereby considering their relationship with the focal brand. CLV models normally do not include this element of competition, mainly because marketers do not possess data about the sales and preferences of competing brands. With the inclusion of competitive effects, the model can provide more accurate accounting of CLV and customer equity (see the next section), which in turn will improve customer based valuation measures.
efficiently and profitable than the selling bank. The model outlined in their research included several profitability drivers (e.g. age, lifestyle, type of product ownership), which form the basis to divide a bank’s customers into homogeneous groups according to their contribution margin. Haenlein et. al (2007) proved that using CLV in a valuation model could support M&A transactions in the banking sector.
2.2.2 Customer Equity
Customer equity represents the sum of the lifetime values of a firm’s customers and has become a key marketing measure to assess the value of firms (Libai et. al 2009). It serves as an indicator of how much a firm is worth at a particular point in time as a result of the firm’s efforts on managing its customers. Gupta et. al (2004)
conceptualized the value of a firm as the sum of the lifetime value of its current and future customers, and proved that the total of all CLV’s (customer equity) can indeed be a strong determinant of firm value (this valuation model will be further discussed in section 2.2.3.) As an indicator of firm value, customer equity can be seen as an
important link to the shareholder value of a firm. A firm therefore needs to make trade-offs that allocate strategic resources to areas in which the expenditures or investments will have the highest impact on customer equity (Kumar & Reinartz 2006).
According to Rust et. al (2004), considering the effect of strategic marketing expenditures on a firm’s customer equity would be a step forward towards the measurement of financial returns on marketing expenditures. Their definition of customer equity, ‘the total of the discounted lifetime values summed over all of the firm’s current and potential customers’, suggests that customers are (or should be) more central to firms than brands. The model of Rust et. al (2004) works roughly as follows: the use of marketing investments leads to increased customer perceptions. These perceptions results in increased attraction and retention of customers, which ultimately leads to higher CLV’s and hence, increased customer equity.
Gupta et. al (2004) built further on the idea of relating the key focus of marketing effort, the customers, to the key measure of a firm’s financial success, its market value. Instead of only using market penetration, they included the more
complete concept of CLV in their approach and the research was conducted at the firm level. Their model is developed to value high-growth companies, using future streams of income and several marketing levers (e.g. retention). Outcomes of the values from the CLV formula were compared with the market values based on the stock prices, and showed significant congruence. Another interesting result from this research was that retention had the largest impact on customer value, and hence proved to be the most important marketing lever to drive value.
Libai et. al (2009) presented an application to calculate customer equity for service firms, with a focus on the effect of customer attrition. As service firms derive their value mostly from customers, a match between customer equity and stock market value would be relatively straightforward. The estimates of the model were remarkably close to the related market values and customer attrition was a significant factor (when not included, the model estimates were much lower).
Rust et. al (2004) showed that by multiplying the CLV of airline customers by the total number of airline passengers, total customer value appeared to be consistent with the market capitalization of the airline company.
2.3 Financial Performance Through Customer Satisfaction
The emergence of customer centricity is apparent in most modern businesses nowadays. The following quote by famous marketing guru Peter Drucker says it well:
“The single most important thing to remember about any enterprise is that there are no results inside its walls. The result of a business is a satisfied customer.” Indeed,
widespread acceptance of the relationship between customer satisfaction and superior economic returns is evident in the growing literature on quality and customer
satisfaction. The number of organizations actively using some form of customer satisfaction measurement in developing, monitoring and evaluating product or service offerings has grown rapidly in the 90’s (Anderson & Fornell 1994).
Many firms have focused their attention on increasing customer satisfaction levels in order to retain customers (Kumar & Reinartz 2006). This is usually
satisfaction is expected to enhance loyalty, which in turn leads to improved profitability. Empirical evidence on this relationship shows mixed results. For example, a firm may have significantly improved a key product attribute only to find that the overall
customer satisfaction score did not change at all, or sometimes an increase in customer satisfaction did not result in the expected improved retention. The result is that many companies have been disappointed in the lack of benefits from quality improvements (Rust et. al 1995).
There are several explanations why findings on the effects of customer
satisfaction are contradictory. First, improving customer satisfaction comes at a cost and may therefore offset any additional revenues. In addition, as the quality of a product or service reaches relatively high levels, it becomes more costly to further increase quality to achieve a higher customer satisfaction score. Furthermore, in many cases customers quickly get used to better quality without necessarily rewarding the firm with increased purchases; they just adapt their expectations (Kumar & Reinartz 2006).
In response to many firms who questioned the economic benefits of improving
customer satisfaction, Anderson & Fornell (1994) investigated the nature and strength of the link between satisfaction levels and financial performance. Their main conclusion was that although improving customer satisfaction does not immediately pay off, firms do enjoy significantly higher economic returns from the improvement on the longer term.
Rust et. al (1995) proposed a ‘return on quality’ (ROQ) model by investigating the link between service quality improvements and profitability. The authors state that successful improvements lead to better perceived service quality and customer
satisfaction and in some cases, in reduced costs. Customer satisfaction in turn results in increased retention and also positive word-of-mouth; driven by these factors, revenues and market share go up and (perhaps combined with reduced costs) enhance
profitability. The ROQ approach treats quality improvement efforts as investments and aims to make these efforts financially accountable. An important implication from this approach is that not all quality improvements (and thereby higher customer satisfaction levels) are necessarily valid investments, as the costs may exceed the additional
revenues.
and hence, additional secured future revenues (Rust et. al 1995). Through improved customer retention, increased net cash flows along with reduced risk and volatility associated with future cash flows are expected to positively affect shareholder value. Additional satisfaction-driven customer behaviors that are likely to influence
shareholder value include buying more of a particular product or service from a given supplier, cross selling, consumers making recommendations to others (positive word-of-mouth) and increasing price tolerance. Anderson et. al (2004) tested this hypothesis, and found evidence for the expected influence of customer satisfaction on shareholder value. The link differs in strength however, across different industries.
Tuli and Bharadwaj (2009) proved that an increase in customer satisfaction reduces a firms’ overall and downside systematic risk. This makes it a valuable metric for financial analysts, as they can use customer satisfaction to assess the risk of a stock. Similarly, investors that are relatively risk-averse and seek consistent returns can invest in firms that increase their customer satisfaction scores.
2.4 Firm Value through Brand Equity 2.4.1 Brand Equity
While many people use the terms brand value and brand equity interchangeably, this view is incorrect. Brand value represents the total of product-, service- and channel benefits plus brand equity and minus costs (Neal & Strauss 2008). So according to the equation, brand equity is one of the components of brand value. Brand equity became known as the off-balance sheet intangible properties in a company’s brand names that function as a source of tangible wealth. The total value of this tangible wealth consisted from a financial perspective of incremental earnings and cash flows generated from linking a successful brand name to a product or service, and became labeled in the marketing literature as brand value (Murphy 1998). In simple terms, brand value represents the total added value from a brand, while brand equity is the less tangible component of this total value.
to a brand, its name and symbol, that adds to or detracts from the value provided by a product or service to a firm and/or to the firm’s customers’. According to Neal &
Strauss (2008) there are two major sets of components to brand equity: perceived performance attributes and image attributes. The first set of attributes deals with consumers’ beliefs and values, and include product aspects like performance, customer support, safety and economy. The second set of components, image attributes, include attributes that determine whether the brand’s image aligns with the customer’s image. Examples of image attributes include aspects like luxury and prestige. In the hyper-competitive marketplace of today, the intangible properties of brand equity are the only element of brand value that can be used to sustain a long-term competitive advantage. As a result, brand equity rather than brand value has become the measure of interest related to shareholder value.
Aaker (1996) proposed other components that are vital to the development of brand equity. He argues that brand equity depends highly on the number of consumers who purchase a product or service on a regular basis, and therefore emphasizes the importance of brand loyalty. A second essential concept to brand equity is brand awareness, which reflects the consumers’ ability to identify a brand sufficiently to distinguish it from competitive brands. Perceived quality and proprietary brand assets such as trademarks and patents constitute the other components that determine brand equity according to Aaker (1996).
From a financial perspective, brand equity is defined as ‘the incremental cash
flows which accrue to branded products over unbranded products’ (Simon & Sullivan
1993). One popular technique in the financial world is to use a firm’s stock price as the basis to value brand equity. This technique provides estimation by extracting the value of brand equity from the value of a firm’s other assets.
2.4.2 Brand Equity and Shareholder Value
Surprisingly, it was the financiers, not the marketers, who popularized the view that successful established brands like Nike, Gilette and Coca-cola enhance shareholder value. Logical reasoning would suggest that as brand names lead to increased earnings and cash flows, increased shareholder wealth would automatically be the result.
financial market value of a firm is meant here, which is ‘the net present value of future cash flows streaming from its tangible and intangible assets, discounted at an
appropriate rate and adjusted for inflation and risk’ (Copeland et. al 1994). The market-to-book value is used as a measurement of shareholder value: when larger than 1, a firm is creating value for shareholders and when smaller than 1, value is being destroyed. The main conclusion from the study stated that firms with higher accumulated brand values had larger market-to-book ratios, meaning that more value is created for shareholders. However, when the value of a brand reaches a substantial level,
incremental changes in the market-to-book ratio from increased brand value are modest (Kerin & Sethuraman 1998).
Pahud de Mortagnes & van Riel (2003) conducted research to investigate the link between brand equity and shareholder value for 43 Dutch corporate brands. The authors found that the performance of a brand may have great impact on three
shareholder value measures of a firm: total shareholder return, earnings per share, and market-to-book ratio. A need is however observed, to develop more reliable indicators for shareholder value.
2.5 Firm Value Through New Product Marketing
It is widely accepted that innovation is an essential driver of a firm’s growth and a primary source of a sustainable competitive advantage (Sorescu et. al 2007). In words of strategy icon Michael Porter: ‘Innovation is the central issue in economic prosperity’. Many firms therefore strive to quickly develop and market new products on a regular basis. The effects of a new product introduction and the influence of a possible accompanying preannouncement on financial performance and shareholder value will be discussed in this section.
Bayus et. al (2003) found a significant positive relationship between new product introductions and financial rewards. Specifically, the authors found a positive effect on two key drivers of firm value: profit rate and size. The effect on profit rate is the result from a reduction in selling and general administrative expenditure intensity. This
Srinivasan et. al (2009) investigated the relations between several new product
marketing aspects and value creation. First, they showed that the stock market impact is higher when the new product is more innovative. Specifically, they found that the return on stock for pioneering new products was about seven times higher than for a regular new product. Furthermore, the authors found a significant positive effect on a firm’s stock price from advertising support for the new product. Promotional support on the other hand resulted in a negative effect on the stock price.
When a new product is being developed, a firm has the strategic opportunity to
preannounce it to several stakeholders including customers, competitors and investors. An important aspect here is that it is incorrect to jointly analyze product announcements (made close to the new product introduction) and preannouncements (made in advance of the new product introduction), as the two types of information being released are strategically distinct and convey different signals to the marketplace (Koku et. al 1997). There are several arguments why companies would preannounce a new product. It may for instance serve to initially educate both potential and existing customers about the product and its features in order to trigger them to wait for its launch, instead of buying a similar available product from the competition (Greenleaf & Lehmann 1995).
Furthermore, preannouncements can support the establishment of dominant industry standards and thereby enhance a firm’s competitive advantage (Farrel & Saloner 1986).
Koku et. al (1997) found that product preannouncements, in contrast with product announcements, have a significant signaling effect on a firm’s stock price. This indicates that preannouncements may serve as effective strategic tools. The influence of new product preannouncements on shareholder value was further researched by Sorescu et. al (2007). While the authors found no significant short-term financial rewards, product preannouncement do positively influence financial returns during one year after the preannouncements. Stock returns on the shorter-term do get higher as the content of the preannouncement is more specific. Furthermore, updating investors after the
preannouncement results in higher long-term stock returns. The findings mainly suggest that at the time of the preannouncement, investors are still relatively uncertain about the ultimate prospects of the product introduction. There is for instance the possibility that the product will never be actually launched. The uncertainty leads to investors
uncertainty is reduced over the long run as investors update the market after the preannouncement, resulting in positive abnormal stock returns (Sorescu et al 2007).
2.6 The Influence of Marketing Investments on Performance and Stock Prices
It is generally accepted that the stock price of a firm is based on the expected future cash flows. As customers are the primary source that is generating these cash flows, there should be a relation between increases in customer equity and increases in market capitalization (Kumar & Shah 2008).
Rust et. al (2004) proposed a strategic portfolio model in which the return on investment (ROI) is projected from specific marketing expenditures. They also
incorporated the elements of competition, customer brand switching and lifetime value. Their model displays the following link between marketing strategies and financial return: first, marketing is viewed as an investment that improves one or more drivers of customer equity. This in turn leads to improved customer perceptions, which cause an increase in customer attraction and retention. As Berger and Nasr (1998) proved, better attraction and retention results in increased CLV and increased customer equity. The increase in customer equity minus the associated costs of the marketing investment, results in a return on that marketing investment (see figure 2).
The application of customer relationship management (CRM) strategies to increase stock price and to potentially create shareholder value has been investigated by Kumar & Shah (2008). The basic idea is that firms can deploy different marketing strategies for different customers based on individual CLV. This way, a firm may allocate more marketing resources for a high-CLV customer while spending less on a low-CLV customer, and thereby increase the overall lifetime value of the firm’s customer base. The increase in customer equity can then be used to predict a change in the firm’s market capitalization. The authors measured the impact of several CRM strategies (e.g. resource reallocation, multi-channel behavior, cross-selling). They found that those strategies had a direct positive impact on the principal drivers of CLV
result of the strategy implementation. Nevertheless, it is obvious that the CRM strategies did lead to positive results.
Kumar & Petersen (2005) developed a customer-focused framework that uses a marketing strategy that aims to maximize financial performance. This strategy consists of several customer-level marketing tactics, including ‘choosing the right customer’, ‘manage multi-channel shopping’, and ‘manage loyalty and profitability
simultaneously’. The authors show that successful implementation of the strategy should lead to improved levels of profitability, customer equity and in turn, shareholder value.
2.7 Summary
The discussion of the literature has shown the relationships between the different marketing concepts and financial performance and value of firms. Indeed, research has proved that marketing-based performance indicators can significantly enhance
shareholder wealth.
First, the findings prove the power of customer equity as an enhancer of firm value. It is therefore clear that the idea of including the customer base in firm valuation is very useful for financial managers. It can provide an accurate alternative, when traditional measures are inappropriate due to certain circumstances. Kumar & Shah (2009) proved that market capitalization is closely tied with customer equity, which is driven by customer-specific drivers and the marketing interventions of a firm. This relationship indicates that customer management and other marketing actions have a significant influence on a firm’s stock price.
As seems to be the problem with several other marketing metrics, the corporate world remains ambivalent towards customer satisfaction as a business metric (Anderson et. al 2004). The investigated relationships do however point out that satisfied customers do trigger a chain of effects that ultimately influences the value of a firm. As customer-centricity is usually apparent in a firms’ business model, relative changes in satisfaction levels over can have a large effect on firm performance and value.
marketing and finance professionals will be enhanced (Pahud de Mortagnes & van Riel 2003).
Finally, new product introductions with a high degree of innovativeness can have a significant influence on a firms’ stock price (Srinivasan et. al 2009). Furthermore, the created value of a new product introduction can be further enhanced through
advertising support for the product. Marketing strategies implemented around the launch and introduction of a new product therefore have potential to enhance company value.
Now that the concepts of interest are clearly outlined, the usage of this marketing information by external parties from the financial community can be investigated. Do financial professionals appreciate this alternative information enough to use it in their decision-making, and are they aware of all the concepts and their practical use? In the next chapter, the research design aimed at addressing such questions will be
3. Research Design
In this chapter, the design for the research in this thesis will be outlined. As explained in the first chapter, the central question is to investigate what marketing information is of use to the financial community with respect to valuing companies and how this
knowledge can be delivered. In the previous chapter, the value relevant marketing concepts were outlined. To further assess these concepts in terms of their current usage by the financial community, convenience of information gathering, their (potential) advantages and disadvantages, and give recommendations on how to deliver the relevant knowledge, the following research steps will be undertaken:
- Investigate to what extent the information is externally available.
- Find out what information the financial community currently uses when performing a company valuation.
- Assessing the information on their usage as key performance indicators.
Each of these steps will be discussed in more detail in the next few sections.
3.1 Availability of the Information
The first step in this research is to investigate which value relevant marketing
information is externally available. In other words, do companies disclose this kind of non-financial information?
Table 1: Definitions used in the research
Customer Satisfaction
All indices or scores that measure the degree to which customers are satisfied with a firm (e.g. ‘net promotor score’, ‘ACSI index’)
Brand Equity
All measures of the concept, or measures of components that fall under brand equity (e.g. ‘brand awareness, ‘brand loyalty’)
Customer Equity Measures of a firm’s customer base
founded in customer lifetime values
New Product Introductions
All variables related to the launch of new products (e.g. number of new products introduced, success rate of new products, new product preannouncements)
Investigating the availability may provide an indication of how important companies believe the specific marketing knowledge is, and/or if they are willing to disclose specific figures associated with it. But more importantly, it will show how easy
financial analysts and investment managers have access to these non-financial measures, if they are available at all.
service firms) and 6 financial firms (banks and insurance companies). Firms are randomly selected within each category.
The use of different categories may provide additional results, as firms in different sectors are expected to emphasize different information in their reports (e.g. consumer firms might focus more on new product introductions than financial firms). The generalizability of the overall results will thereby be enhanced.
For all firms, the annual reports of 2008 are analyzed for the relevant information. Furthermore, if provided by the firm, the CSR reports will also be used in the research as these reports usually contain relatively more extra-financial information. As said earlier, the goal is to find which marketing knowledge from the conceptual model is mentioned and how it is used in the corporate reports. Besides actual values relating to the marketing concepts (satisfaction index of 89%, 6 new products introduced, etc.), it is also possible that the firm states in the report to use certain measures, but chooses not to share the information publicly. Therefore, the findings from the reports will be divided in two categories:
- Use of information is mentioned; this means that a company says to use the marketing model or metric, but not necessarily shares the actual
results/values.
- Actual numbers are disclosed; in this case, the company reveals the actual numbers with respect to the relevant marketing concepts.
Obviously the latter is the most interesting here, as financial professionals preferably use hard numbers when performing a company valuation. However, knowing how many companies use the marketing knowledge (even only internally), may tell something about the state of marketing in general.
3.2 Metrics used by the financial community
To investigate what information the financial community currently uses for company valuation, there will be looked at both financial analysts and investment managers. The reason for this separation is that they strive to achieve clearly distinct goals: while financial analysts analyze and value companies to advise potential investors whether to buy a firm’s stocks, investment managers assess a firm’s worth to decide whether or not to acquire the firm in question. This part of the research is aimed at uncovering 1) what information is most important to financial professionals when performing a company valuation; 2) what non-financial information they use, especially the marketing concepts from the conceptual model and 3) which marketing knowledge they are interested in for future use.
First, analyst reports about each of the 10 companies listed on the AEX mentioned in the first part of this chapter will be analyzed to find what information financial analysts are using. For each company, 2 extensive reports that cover yearly results, at different points in time (2007 and 2008) and written by different financial analysts, will be
investigated. These relatively large types of analyst reports are expected to contain more extra-financial information. Besides investigating which information and models are used by financial analysts to make recommendations on investing in a firm,
non-financial key performance indicators are of specific interest. An important question here is if analysts look at any of the market-based indicators from the conceptual model at all. In this case, there will only be searched for actual numbers related to the marketing concepts. It can be assumed that analyst reports only contain analysis of numerical data, and the amount of qualitative data is negligible. Furthermore, there will be searched for any correlation between the information of interest found in the analyst reports and the information provided by the corporate reports of the different firms.
implications of answers to the main questions. A total of 6 in-depth interviews can in this case be assumed to provide sufficient ideas and knowledge to draw a clear picture of how investment professionals value different types of information and especially, how important marketing knowledge is to them. Due to the explorative nature of this research stage, adding another interview did not provide significant additional insights; the interview with a seventh participant only brought similar ideas and opinions.
The 6 participants in the study are all investment professionals from the Dutch financial sector. Their participation was solicited by contacting them personally by e-mail. Participants were given a brief document of information about the study and then they confirmed their willingness to participate in the interview.
Details about the participants are shown in table 2 at the next page. The average length of experience as an investment professional is 7.5 years, and all participants hold a university degree. Therefore, it can be assumed that all participants have the appropriate knowledge about the subject of company valuation.
Furthermore, three participants are specialized in one of the three different sectors mentioned in section 3.1 (financial, consumer and service), while the other three are working in a specific sector. This way, outcomes with regard to the use of information for company valuation will be balanced across different sectors. This enhances the generalizability of the results.
The questions in the interviews are mainly focused at uncovering to what extent the investment managers know the marketing concepts as explained in the marketing-finance framework, and whether they take these concepts into account when deciding on investing in a firm.
In the first stage of the interview, participants will be asked which specific metrics are the most important when performing a company valuation. Subsequently, they will be required to mention any non-financial performance indicators they often use in the process and which they consider to be important when valuing a company. In this stage, participants are still not informed about the specific marketing-based measures that are of interest in this research. The non-financial metrics can therefore be of any kind (e.g. environmental, social).
value. Participants are then asked to indicate if they ever looked at these concepts as measures that are relevant for a firm’s value. When needed, participants will be provided with further information in order to understand the specific relevance of the concepts for financial purposes, as stated in the marketing literature. The goal is then to reveal participants attitudes towards using this information (if not already) when
performing a company valuation.
Table 2: Participants
Label Age Years of
experience Highest Education Business Field Sector A 29 5 Economics Private Equity All B 53 19 MBA Private Equity All C 32 4 Business Administration Corporate Finance Service D 27 3 Business
Administration Consultancy Financial
E 34 7 Law Investment
banking All
F 33 7 Economics Private
Equity Consumer
3.3 Assessing the information on their usage as key performance indicators
the information is measurable, benchmarkable and linked to corporate success. The main concepts from the conceptual model, namely customer equity, customer
4. Results
The results of the different research stages as explained in the research design will be analyzed next. A general discussion about the overall results and accompanying recommendations will close off the chapter.
4.1 Availability of the information
In the figure below, the results from analyzing the year reports and corporate social responsibility reports are displayed (see appendix A for specific data).
Figure 2: Usage and availability of information ( N=20)
information or do not even know the concept of customer equity, is beyond the scope of this study.
Furthermore, when looking at figure 2 one can see that although relatively high percentages of the companies indicate to use the other three concepts, the number of firms that have put actual numbers in their annual reports is rather disappointing. It is therefore not at all obvious that companies disclose marketing-based performance indicators, even if it is important to them internally.
Figure 3: Availability of actual numbers in different corporate reports (N=20)
Figure 3 shows the percentages of actual numbers related to the concepts that are disclosed in the different corporate reports. As the figure indicates, customer
satisfaction is the most frequently used metric from the conceptual model in corporate reports: 40% of the companies in the research disclose their customer satisfaction index in either one of the reports. The measures used to determine the index are the ‘ASCI’ index, the ‘net promoter score’ or some measure from internal research. It is surprising that while almost all of the companies stated in their annual report that they extensively use customer satisfaction as a performance indicator, only 8 of the 20 firms reveal the actual index. Thereby, the change in satisfaction levels compared to previous years was disclosed by 2 firms. No single company in the sample provided an explanation for the customer satisfaction score or its change over time.
As it is not mandatory to disclose these kinds of indicators, it may be undesirable to publicly report such a negative result. Still, it is clear that customer satisfaction is nowadays widely accepted as a key performance indicator in the corporate world. The extent to which the metric is externally available is therefore still a bit disappointing.
Measures of brand equity were provided by 30% of the companies. Brand awareness is the specific metric used by these companies, which is one of the most prominent components of brand equity according to Aaker (1996). This indicates that firms place high value on the extent to which consumers are able to identify the brand and
distinguish it from competitive brands. Furthermore, several companies from the sample have established the enhancement of brand value in general as a strategic goal.
Finally, 15% of the companies reported on the number of new products introduced in their annual statement. Not surprisingly, these were all consumer goods companies (Adidas, Volkswagen and Siemens). The amount of new product introductions is probably a less relevant performance indicator for financial and service firms. The new products introduced were explained in detail, which suggests that these consumer goods firms want to emphasize the value and results of their innovation-driven business model to their stakeholders. Again, it is remarkable that 55% of the firms in the sample
indicate to use some sort of measure concerning the development and launch of new products (or services), while only few share the information in their reports.
Furthermore, the three companies that reported on new product introduction were all German; no such figures were found for any of the Dutch companies in the sample. For the other metrics, no significant differences were found between Dutch and German firms.
Overall, the results indicate that marketing-based performance measures are not easily acquired by external investors. Specific marketing metrics are scarcely provided through corporate reports. Although it is clear that at least customer satisfaction and brand equity are extensively monitored by most companies, few are willing to make specific numbers externally available. Specific reasons for this and for the total absence of customer equity in corporate reports as well, are beyond the scope of this research. Furthermore, no details could be found about how the companies specifically use the metrics, or how important they are with respect to managing the firm.
4.2 Information used by the financial community
In this section, the results on the extent to which value relevant marketing information is used in the financial sector will be discussed.
4.2.1 Analyst Reports
Investigating the total of twenty analyst reports covering the ten Dutch listed firms, showed very meager results concerning the use of value relevant marketing knowledge. None of the substantially large reports contained any of the concepts from the
conceptual model. As analyst reports are very similar in terms of content, it can be assumed that providing non-financial data in general is not part of the goal of such reports. The only significant non-financial metric was market share: nearly all reports included market share in their analysis. Furthermore, some analysts write about the firm’s performance in relation to the customer concept (e.g. customer trust, loyalty), but actual numbers are not to be found.
It can be concluded that analyst reports are based on pure financial data. The purpose is aimed at giving advice about a firms’ stock value, from an exclusively financial
perspective. Financial analysts are therefore hardly interested in non-financial
information. A reason for this might be that financial analyst have relatively short-term view: as their goal is to analyze the profitability of buying a firm’s stock within a short time, they may therefore ignore indicators like customer satisfaction and brand
awareness because they usually have a longer-term effect on performance.
4.2.2 Interviews with Investment Professionals
Figure 4: Financial metrics used in company valuation
‘Earnings per Share’ was the most used metric (100%), followed by ‘Discounted Cash Flows’ and ‘Earnings Before Income and Taxes’ (each mentioned 4 times). ‘Earnings Before Income, Taxes, Depreciation and Amortization’ was mentioned by two
participants from the private equity sector. Finally, ‘enterprise value’ was mentioned by half of the participants when asked about their most important metrics when valuing companies.
Figure 5: Non-financial performance indicators used by participants
Five out of six participants mentioned customer satisfaction as an important value relevant metric. These participants said to look at customer satisfaction levels almost always when performing a full company valuation. When satisfaction levels have dropped along with a decrease in company profits, it can be an important indicator of where the problems of a company lie according to participants in the private equity sector. Furthermore, all of the participants said to look at a firm’s relative market share as an indicator of firm performance and value. Four investment professionals stated the distribution of the customer base (e.g. is it made up of a few large customers or many small ones) to be important. For instance, when the total profit of a firm is highly dependent on one large customer, this can have a large influence on the firms’ value. The three participants from the private equity sector indicated that the number and nature of recent lawsuits against a company is an essential piece of non-financial information in their business. Finally, employee commitment and innovation were mentioned twice, while employee turnover once, as a non-financial metric of interest.
numbers, while it generally has little influence on decision-making. Participants overall said to use non-financial measures as additional supportive information, but that pure financial numbers are far more important in their decision-making. Furthermore, the development of non-financial performance over time is more relevant than the numbers alone.
In the final stage of the interview, participants are asked about the specific concepts of interest in this study. Table 3 provides a summary of participants’ attitudes towards these marketing based performance measures, based on the interviews (see appendix B2 for a more detailed description).
Table 3: Participants’ views and quotes on marketing based performance indicators
Customer Equity
Quotes:
- Participants are not aware of the concept - General skepticism about the use of
customer equity as a measure, it requires too much speculation and estimation
- Value of the customer base may be an indicator for a firm’s health
“Predicting future cash flows from in individual customer is impossible”
“I doubt that many companies measure this” “It could be a good way to estimate part of a firms’ value”
Customer Satisfaction - Dissatisfaction of customers can give directions to company problems
Quotes: “This is one of the non-financial kpi’s we always take into account in our analysis”
“We never look at satisfaction indexes provided by the firm itself”
“We rather look at the development of satisfaction levels over time than only the current index”
Brand Equity
Quotes:
- Value of a brand is already accounted for in a firm’s share price, therefore less relevant to specifically look at.
- Brand awareness is the most common used measure relating to brand equity;
specifically, the development of brand awareness over time is of interest
“It is interesting to look at a brand’s performance, but we do not relate it to financial value particularly” “The value of a strong brand should be reflected in a firms’ market capitalization”
New Product Introductions
Quotes:
- The number of new products and the
accompanying degree of innovativeness can be an important indicator of performance, especially in the consumer goods industry
“The importance of the number and nature of new product introductions depends on the type of firm” “More important is to what extent a firm is sufficiently innovative to keep up with the market”
company performance, as participants usually include it in their overall value assessment. New product introductions are also relatively important according the participants, although opinions are mixed. As expected, the relevance of new product invention is sector-dependent; for evaluating the performance of manufacturers of consumer products it is an essential piece of information, but it is usually less relevant when assessing financial or service companies.
Participants were less interested in brand equity: as the value of a company’s brand is reflected in the firm’s market price, investment professionals do not really need additional information about it. Although brand indices obviously do tell something about how a firm is performing, it is not (yet) integrated in the valuation process. Finally, the concept of customer equity was not sufficiently known to the participants. Besides, after the definitions and practical use was made clear, participants were rather skeptical about the metric.
Summarizing the interviews with the investment professionals altogether, it is clear that they do not embrace the marketing aspect of firm value. They indicate that the use of marketing knowledge is more like some extra information, besides their (traditional) financial measures of firm value. A more detailed discussion about these results will follow in section 4.4.
4.3 Overall assessment of the measures
According to the DVFA committee, ‘good’ non-financial KPIs should:
1. Map correlation to risk or success factors of corporate businesses 2. Be firmly anchored in the corporate management system
3. Be quantified 4. Be comparable
5. Provide possibilities to benchmark, e.g. from peer to peer
6. Map the dynamics of the business model, i.e. from reporting period to reporting period
7. Be acceptable and respected by main-stream financial analysts and investors
Table 4: DVFA’ s criteria Customer Equity Brand Equity Customer Satisfaction New Product Linked to risk/success + + + + Anchored in management system - +- + - Quantifiable + +- +- +- Benchmarkable +- + + +- Map dynamics of business model + + + +- Accepted by financial community - +- + +- Linked to risk/success
With respect to the first criteria, all four concepts proved to be linked to corporate success (see literature in chapter 2). Research has shown that improving these marketing metrics has a positive effect on a firm’s shareholder value. Therefore, the metrics can definitely be established as relevant to a firm’s economic decision making.
Anchored in management system
companies who mentioned the value of the customer base as an internal metric is negligible. Customer Equity can therefore not be seen as accepted by a firm’s management as a relevant indicator of performance.
Quantifiability
When looking at the extent to which the metrics are quantifiable, Customer Equity scores high. Although some variables of the formula for Customer Equity (e.g. growth of the customer base, retention rate) are based on estimation, research has proven that Customer Equity provides an accurate measure of the value of a firm’s customer base (Gupta et. al 2004, Libai et. al 2009). This value has a clear meaning and is based on relevant and usually available numbers. Hence, the concept of Customer Equity is relatively easy to quantify.
To accurately quantify the extent to which customers are satisfied with a firm is less obvious. First, there are several different measures (net promotor score, ASCI index). It is however not straightforward how to derive a meaning from such a value. The ‘net promoter score’ for example is obtained by asking customers how likely they would recommend a company to others (e.g. friends, colleagues), on a scale of 1 to 10. The question then arises: what exact meaning can be derived from the fact that a firm’s customers are rating the likelihood of recommendation a 7,5 on average? From a financial professionals’ perspective, whose analysis is usually based on hard numbers, such a figure may be difficult to interpret. Of course, a more overall measure of Customer Satisfaction, based on asking customers more questions about their experience with a firm, makes the metric more valid. Customer Satisfaction can be quantified, but the different ways to measure and the uncertainty about what a certain satisfaction value means, makes that the concept does not fully meets the criterion. As for Brand Equity, several components of the concept are not easy to measure. For example, the extent to which a product aligns with consumers’ beliefs, values and image, is very difficult to quantify. On the other hand, brand awareness can be accurately
measured, as it simply means the percentage of consumers who knows the brand and is able to distinguish it from competing brands. Overall, it leaves the concept of Brand Equity in the grey zone for this criterion.
launched by a firm, the degree of innovation compared with similar products is difficult to determine.
Benchmarkability
When assumed that firms use the same index, both Customer Satisfaction and Band Equity scores are suitable for benchmarking purposes.
As for Customer Equity, the value of the customer base might not always be a suitable variable to benchmark against competitors within the same industry. Larger firms have more customers and hence a substantial higher value of Customer Equity compared with smaller firms. For firms of a similar size however, the concept does provide
benchmarking opportunities. Differences in the value of the customer base can occur through different rates of customer retention, growth or contribution margins.
Comparing Customer Equity levels against similar competitors can therefore provide valuable knowledge about a firm’s relative performance.
The number of new product introductions alone is not a very accurate measure of relative performance. It would be more relevant to measure the success of newly launched products, which can be done in terms of sales or customer perception levels about a products’ innovativeness. However, ‘new to the world products’ are also difficult to benchmark, as there are usually no products on the market suitable for comparison.
Map Dynamics of Business Model
Customer Equity, Customer Satisfaction and Brand Equity are all performance
indicators that sufficiently map the dynamics of a firm’s business model, from reporting period to reporting period. The development of each measure over the year can be compared to the objectives derived from the business model, to support the analysis of a firm’s year performance.
Accepted by financial community
Based on the previous research stage in section 4.2, it is possible to assess the marketing concepts on the extent to which the financial community accepts them as key
performance indicators. Accepted by financial professionals implies that the metric or model influences decision making with respect to the valuation of firms.
Considering the results, Customer Satisfaction is the only metric that is fully accepted by the financial community. As can be concluded from the interviews, financial professionals are using Customer Satisfaction on a frequent basis when performing a company valuation.
On the other hand, Customer Equity does not meet this criterion at all. Participants were not aware of the concept and hence, never used it. Furthermore, explaining the purpose and dynamics of the metric still raised a lot of questions regarding its usefulness. Brand Equity and New Product Introductions are both in the grey zone, as opinions were mixed regarding the usefulness of these concepts for valuing firms.
4.4 Recommendations: facilitating the knowledge
In this final part of the research, recommendations on how to facilitate the use of value relevant marketing knowledge within the financial community will be given. These recommendations will be mainly based on the results of the previous research stages; specifically, the opinions and suggestions made by the participants in the interviews will by heavily taken into account. Through the overall assessment of the marketing
concepts and the usage of/attitudes towards the concepts by financial professionals, the aim will be to recommend on issues like the following:
- To what extent is the knowledge useful for financial professionals? - Do the concepts need more explanation?
- Are the measures sufficiently standardized?
- In which ways can the knowledge be made more accessible?
4.4.1 Discussion of the individual concepts Customer Satisfaction
Based on the results in this study, the extent to which customers are satisfied or dissatisfied with a firm is a frequently used metric among investment professionals. Although historically a true marketing metric, customer satisfaction is a fairly integrated metric in the process of company valuation in the financial sector. Furthermore, a reasonable percentage of listed firms already include customer satisfaction measures in their corporate reports. This percentage should however be further improved, as a far larger share of the firms indicated to assign great importance to their customer satisfaction levels and are thus also measuring it.
One weakness to the use of customer satisfaction as an indicator of firm value
Furthermore, several participants stated in the interview that a customer satisfaction index on its own does not provide sufficient information: it is the development of the index over time, which captures their interest. When for example customer satisfaction for a firm falls from 80% to 50% in a year, and the firm showed relatively poor financial results, the increased dissatisfaction can have a substantial negative effect on the firm’s value. Potential acquiring firms may then be hesitated to buy such a firm whose
customers have become so dissatisfied. Concerning this, firms should display the development of customer satisfaction levels over the years in their report, instead of only the current index. This would make the information far more useful for external investors.
Brand Equity
The results indicate that Brand Equity is not widely accepted as a key performance indicator, either by the firms itself and by the financial community. This might be caused by the fact that Brand Equity is a rather complex concept as it consists of several highly subjective components, which is not clearly understood by many. Therefore, rather than using the construct as a whole, measuring parts of it would enhance understandability and use of the brand concept. As both the research of corporate reports and the interviews with investment professionals showed, brand awareness is frequently mentioned in relation to brand value or equity. Brand awareness might therefore be a good example of a suitable brand related metric to consider when performing a company valuation. It is easier to quantify than the whole brand equity construct and when firms use the exact same way to measure awareness, it might gain importance as a non-financial key performance indicator for the financial community to consider.
Customer Equity
The concept of customer equity is relatively new, as the results showed that hardly anyone from the financial community has heard from it. Furthermore, the absence of any figure or discussion point related to the value of the customer base in corporate reports, leads to the assumption that measures of customer equity are scarcely used by firms. Still, as many marketing research has shown over the last years (Gupta et. al 2004), Rust et. al (2004), Libai et. al (2009)), customer equity can function as a powerful predictor of firm value.
Wiesel et. al (2008) already proposed a technique to accurately report on the value of the customer base and its changes over time, in order to address the need for more information by external investors. External parties from the financial community however remain skeptical about measuring the customer base. First of all, some
variables that are part of the measure are based on estimation; future growth of a firm’s customer base and retention rates can hardly be accurately predicted, according to the investment professionals interviewed in this research. Furthermore, there may be too many different formula’s to calculate the firm’s customer base. A standardized measure of customer equity that captures the dynamics of the continuously changing customer base would therefore enhance the use of customer equity by financial professionals. It appears that the whole concept of customer equity is too vague and not fully understood by many outside the field of marketing. Instead focusing on the idea of customer equity a substitute for a firm’s market value, financial professionals should be made aware of the relevance of valuing the customer base to assess performance. As market values of many firms have decreased dramatically during the recent crisis, assessing those firms’ customer bases provides a good opportunity to determine potential performance in the future. When a firms’ stock performs poorly on the market but still has a large and loyal customer base, the firm may still prove attractive to external investors. Besides,
