The debate on the inclusion of all of the brands, whether they be purchased or created, raises basic questions about the very essence of accounting. Why do balance sheets and company accounts exist? Is it to give an estimation of the true financial value of the company (which of course is very subjective) or, following the accounting prudence principle, to include only objective data and to assess only past and recorded transactions? Until now the second idea has been chosen in all countries: therefore only transactions involving external brands are recorded.
If the internal brands were to be noted, the principle of reality would be respected at the expense of reliability and of the consistency of accounting. In fact, what would we think of a balance sheet which was based on non-uniform and sometimes subjective methods of evaluation? The inclusion of an acquired brand does not violate the principle of bookkeeping at historical costs, which is a fundamental accounting principle. How then can internal brands be valued? As we will see later on, the valuation methods, which are based on historical costs or replacement costs, are not good enough.
The best methods are those based on projections of future income, which are highly subjective. A certain amount of uncertainty and heterogeneity, which are against the rules of caution, would be created if these were included in the balance sheet.
But one may contend that the function of accounting is to present a framework to identify and deal with a company’s commercial expenses which are accumulated in the form of intangible assets that are developed internally. For the moment, these outlays are treated as expenses and are deducted from the company’s income for the year in question; this in turn reduces the amount of tax that the company has to pay.
However, some tax authorities are beginning to clamp down on the payment of back taxes. For example, they now consider that the money spent to produce advertising commercials can no longer be classified as expenses but are rather investments and thus are no longer exempt from tax.
Accountancy, just like taxation, is interested in the recording of costs (as expenses or as investments). Financial analysis estimates the discounted value of certain assets as a function of the probability of the future income that they are supposed to generate. Thus, there will not be only one value of the brand because valuation methods depend on the goals of the valuation. The accounting principles already exist and can integrate with some reservations the costs accrued during the creation of a brand. It is for the finance people to estimate the market value of these assets according to their own methods. This reasoning already exists for buildings and thus can also be applied to brands.
Here, a first conclusion is taking shape concerning the monetary value of brands: ideally for a valuation method to be acceptable it should be possible to apply it equally well to brands which are to be bought and to brands that already exist within the company, with a financial aim as well as an accounting aim. However, this is not possible.
The notion of value is highly dependent on your position. Rowntree was worth £1 billion for its shareholders and £2.4 billion for Nestlé! For Midland Bank, Lanvin was worth £400 million; for Henri Racamier and l’Oréal it was worth £500 million. On top of this, accountancy is controlled by a principle of prudence, objectivity and coherence through time. By definition, in its own evaluation, a raider thinks and acts differently.
He does not want to be prudent and is rather subjective. The valuation of brands in the context of mergers and acquisitions is a one-off operation: it aims to fix a price at the start given the intentions and synergies that can be expected by the potential buyer. Accounting for brands should obey different norms since their value derives from a different point of view. When there is no transaction involved, the internal brand is valued either as a function of accrued costs or as a function of its everyday usage (and not what another party could do with it).
Therefore, there will definitely be a gap between the value of the brand which is bought and of the brand which is created. Moreover, the need to constantly revalue brand values either up or down, in a subjective manner, if they are legitimately noted in the balance sheet introduces fluctuations which undermine the reliability of company accounts.
We can reply that the value of the inventory which, in Europe, is indicated annually in the notes to the accounts does not have this effect. It is understandable why the accounting experts at the London Business School who were studying the case for the inclusion of all brands on the balance sheet gave an unfavourable opinion (Barwise, 1989) concerning home-grown brands.
It is a paradox that those who support the most the argument of posting brand values are the marketing people. Perhaps they are hoping to find a method accepted by accountants and financiers of valuing the long-term effects of marketing decisions. However, even though everybody agrees orally that, for example, advertising has both short- and long-term effects, controllers analyse brand performance within a short span of time. Product or brand managers have to produce positive annual operating accounts, positive profit and loss accounts.
Thus, evaluation and control are done on an annual basis. This type of behavior encourages all decisions which are profitable in the short-term. Marketing people would like to have a way to counterbalance this short-term bias, which has the effect of ballooning annual earnings but of eventually undermining brand equity through rapid promotions and brand extensions which are too far from the core activity.
On the other hand, looking for gains in awareness at any price may not always add to the marginal increase in brand equity and thus should be halted, with the money put to better use.
More generally, the value of a brand can be measured if the sources of this value can be located, in other words to measure is to understand. Therefore the resulting figure does not interest marketing as much as the process by which it is acquired, that is, the understanding of how a brand works, of its growth, of its increase or loss in value.
This understanding is a learning experience and introduces logical and analytical elements to areas where magical beliefs dominated. It also supplies the means for a real communication between people working in marketing, accounting, finance, tax and law.
Finally, even if, for reasons linked to tax or respect for the principle of objectivity and accounting coherence, the inclusion of internal brands on the balance sheet is still not recommended and should not be practised by the company, brand valuation remains a worthy exercise to be carried out internally, for all the above mentioned reasons.
Mergers and acquisitions are in the end exceptional events even though they do catch the media’s attention. The valuation of brands should not be restricted simply to mergers and acquisitions, it is also needed for the benefits that can be obtained from the point of view of management: for help in the decision-making process, for management control, for information systems, for marketing training and for education of product and brand managers.
At this time when much is being said about the decline of brands, it is healthy to wonder what the real value of their awareness, image and public esteem is. Brand equity is based on psychological indicators, which are measured from the consumers’ point of view, and is only worth something if it results in extra profits.
The demands which arise from the presentation of company accounts and from shareholder and investor information are one thing, those arising from a management control system are another. The two should not be mixed up because they do not have the same objectives nor are they faced with the same constraints. There is no single value.
The notion of value is ambiguous and a source of several misunderstandings. It is important to understand that there is no single value for a brand; in fact, there are several because the valuation will be different depending on its aims:
For the last case the buyer only asks one question: by how much will actual income rise due to the acquisition of a company with a strong brand? In order to reply to this question the company will evaluate any possible synergies that may exist between the two companies, any resulting cost savings (due to production, logistics, distribution, marketing), any extra capacity to impose one’s decisions on distributors or the possibility of brand extensions or internationalisation. The proposed price for buying the company will be shaped by these questions. However, none of these questions will have any influence on the book value of the company’s brands.
What conclusions should be drawn at this stage? Financial valuation of brands allows for the multidisciplinary meeting of all the company’s departments: marketing, audit, finance, production, tax, etc. A capitalistic perspective is introduced in the long run, counterbalancing the logic of annual valuation perspectives. It acts as a reminder of the fact that a company’s wealth no longer comes solely from the land, plant and equipment but also from its intangible assets (know-how, patents, brands, etc).
The debate on the value of brands and the way to account for them as assets is essentially an accounting one. This is not the essential benefit, but rather the integration of brand value in evaluating marketing and advertising decisions, which have been up to now subject to one single criterion: the preservation of the annual operating statement of the brand. Before we start to talk about the different valuation techniques, it is important to remember that the real objective of a valuation (for an acquisition or for the presentation of company accounts or for management) modifies the criteria of valuation for these methods.
Depending on this objective we will have to choose between these demands which are, unfortunately, not very compatible: more validity or more reliability? more subjectivity or more objectivity? more present value or more historical costs?
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