A VIRTUOUS CYCLE: INNOVATION, CONSUMER VALUE, and COMMUNICATION Key Findings for Policy-Makers and Chief Executives Lead Editor Kamran Kashani Professor of Marketing and Global Strategy at IMD, Lausanne, Switzerland Authors of the Report Kamran Kashani Professor of Marketing and Global Strategy at IMD, Lausanne, Switzerland Joyce Miller Research Associate at IMD, Lausanne, Switzerland Tony Clayton Director at PIMS Associates, London, UK ACKNOWLEDGEMENTS AIM, IMD, and PIMS wish to thank over 100 managers in the following companies for their co-operation in this research, and for their insights on brand-building and the innovation process as detailed in the case studies that appear in this Report. Abba Seafood Antonio Puig Bacardi/Martini Bahlsen Barilla Beiersdorf AG Bitburger Brauerei Bourjois Bristol Myers Cadbury Schweppes Campina Melkunie Chanel Douwe Egberts Electrolux Fort James Heineken Henkel ICI Paints Kimberly Clark Mars McCain Foods Merloni Nestlé Procter & Gamble Pampryl Pernod Ricard Philips Lighting Reckitt & Colman Sara Lee SCA Hygiene Smiths Foods Group Unilever Foods Unilever HPCE Waterford Crystal Wella AG A full Report on the survey findings, including 22 detailed case studies, is available directly from AIM. page 1 INTRODUCTION This document summarises the findings of a massive research project examining the role of innovation and its contribution to the performance of brands. It contains important findings and conclusions for practitioners, both those in the business of building brands and others, including public policy-makers, whose decisions impact the health of brands and consumer choice. The data presented here has been gathered through 100 in-depth interviews with mostly fast-moving consumer goods (fmcg) companies across Europe. The overall study--designed in joint effort between IMD (the Swiss-based International Institute for Management Development) and PIMS Europe (Profit Impact of Market Strategy) analysed sixty innovations--primarily new product introductions--launched by 34 companies across 26 product categories. In addition, some evidence is drawn from PIMS‟ 1998 study of branding and business growth, supplemented by further interrogation of PIMS‟ fmcg database during 1999 specifically for this new study. Our research confirms that in the highly contested consumer markets covered by this study, surveyed companies place innovation among their highest strategic priorities. Innovations that create and deliver added consumer value contribute significantly to the success of brands. Moreover, this study demonstrates that innovation, consumer value creation, and communication are all elements of a virtuous cycle of brand- building. At each turn of the cycle, innovative brands create more consumer value, thereby earning greater consumer franchise, which, in turn, translates into growth in sales and market share, higher savings in communication expenditure, and greater returns on investment. With greater returns come the added resources for further innovation and, thus, the cycle repeats itself. Our study also demonstrates that the virtuous cycle of value innovation can also shift into a vicious cycle if changing management priorities, or other factors including misguided public policies, interrupt a continuing innovation process. Under this scenario, the immediate loss of innovation advantage leads to reduced consumer value and franchise which, in turn, results in poor market performance, declining returns and, ultimately, reduced resources for future innovation. Staying in the innovation race and continuing to invest in enhancing consumer value relative to competitive offers are thus key imperatives for brand-builders. page 2 KEY FINDINGS FOR POLICY-MAKERS AND CHIEF EXECUTIVES Highlights Strong brands are built not on the back of advertising and other promotional expenditures but rather on innovations that create novel consumer value. Evidence shows that growth in brand sales and market share is related to innovations that lead to significant improvements in consumer value. At the same time, high advertising and promotional expenditure in the absence of initial consumer preference has a negative impact on market share and return on investment. Innovation remains a key strategic priority for branded goods companies, with a significant majority of those surveyed pointing to its growing importance. The high and rising priority given to innovation is related to management concerns about low growth in highly competitive markets where product differentiation is minimal or non-existent. Innovation promises growth through differentiation. Radical product innovations that create a significant improvement in consumer value offer higher brand growth in both market share and sales than minor incremental innovations. While many of the surveyed companies are busy with incremental innovations, our study points to the potential of product “breakthroughs” for significant competitive gains. Brands that “innovate” a whole new category, or set decidedly superior standards in consumer value, are rewarded with faster growth. Pioneering brands enjoy lasting benefits associated with the first-mover advantage. Our study confirms that brands that have pioneered a new category through radical innovation have far greater probability than latecomers of enjoying market leadership for several subsequent years. This lingering advantage is a reward for the higher risks associated with such breakthrough innovations. Small wins through incremental product innovations can lead to sales and market share growth provided a brand is more active than its rivals in introducing new products and/or such innovations represent perceptible improvements in consumer value. Incremental product enhancements have their place in a brand’s innovation policy. The key factors have to do with the total effort relative to competition, and the impact on perceived consumer value. The greater these two factors, the more significant the impact of incremental innovations. An early focus on consumer value is another key success factor for innovation. Brands that focus on consumer value enhancement at the initial stage of concept development achieve over twice the growth of those that do not. Early assessment of consumer value leads to insights that help put the rest of the innovation process on track. page 3 Highlights continued Speed to market is a factor in brand performance as measured by growth in both sales and market share. Brands that bring innovations to market within the first 12 months from the original idea show far greater growth in both sales and market share than brands whose innovations take longer to reach the market. It pays to be fast because it pays to be first. Brands are in a continuous race for “innovation advantage”. Brands that pull ahead of their rivals in relative innovation usually gain sales and market share; those that fall behind can lose on both fronts. The innovation advantage is even more critical for brand leaders. Staying ahead of competition in new products safeguards their category leadership. On the other hand, leaders pay a heavy penalty in market share loss by falling behind in the innovation race. When innovating brands create novel consumer value, they benefit from a number of advantages that come with greater consumer franchise, growth, and economies of scale in communication. As such, innovating brands participate in a virtuous cycle with the following logic and characteristics: Brands that, over time, achieve a leading market share position for their record of innovation and significant consumer value creation are further rewarded by strong consumer franchise, which, in turn, translates into the phenomenon of having to spend less on brand communication than their less innovative rivals. Innovating brands that have achieved a relative advantage over their rivals in consumer franchise enjoy the added benefit of a greater return on their investment--a benefit, in part, associated with the greater economies of scale. Innovating brands enjoying higher returns, and the resulting brand equity, have greater incentives and resources to invest in further innovation, thereby perpetuating the “virtuous cycle”. A virtuous cycle can easily turn into a vicious cycle if shifting priorities, mismanagement, or misguided public policy interrupt the continuing innovation process. There are no fixed positions in the race for innovation advantage. Challengers do displace brand leaders on the basis of their record of innovation and creating consumer value. The loss of innovation advantage can lead to reduced market performance and declining economic returns, which, in turn, diminish the resources available for future innovation. In today’s highly competitive markets, staying in the innovation race is not a choice but an imperative. Each of the above findings is further elaborated in the rest of this document and illustrated with appropriate examples from the surveyed companies. 1 1 To avoid unnecessary confusion and in the interest of clarity, a number of terms used throughout this document are defined in the Appendix. page 4 KEY FINDINGS Innovation: A Strategic Priority Innovation, mostly in the form of product enhancement, is a top priority for management in the fast-moving consumer goods (fmcg) sector. A main strategic priority for two thirds of companies over the last two years, innovation is expected to receive an even greater priority in future (see Figure 1). Figure 1 Innovation Gets High Score as a Main Strategic Priority Past 2 years Next 2 years O the r 13% O the r C ost R e duc tion 16% 6% EC R Inc re m e ntal 5% C om ple xity 6% Innovation N e w B rands 46% 3% Inc re m e ntal N e w B rands Innovation 9% 54% R adic al Innovation R adic al 22% Innovation 20% Source: PIMS / IMD Brand Innovation Study 1999 In the highly competitive markets of branded fmcg, lack of innovation often translates not only into rapid loss of differentiation but also commoditisation, both of which mean declining margins and profitability. For this reason, continuous innovation has been elevated to a management imperative for many organisations. Improving Consumer Value: A Key Driver Innovations that create and deliver added consumer value contribute significantly to the success of brands. Figure 2 shows that significant growth in both market share and sales has come to brands that have shown large improvements in consumer value through innovation. Brands that have failed to demonstrate any change in consumer value show the least growth in both sales and market share. Figure 2 page 5 Innovations focused on improving consumer value reap the rewards. Incorporating three years of technical effort and consumer research, Fort James‟ Thirst Pockets was engineered to improve both absorption and wet strength--performance aspects highly valued by consumers. This new patented format was a visible change from the standard kitchen towel. The introduction of Thirst Pockets, first in premium patterned towels, then in plain products, led to a shift in consumer buying patterns, stimulating innovation and growth across the entire category. Beiersdorf achieved significant growth in both sales and market share of its face care products with the 1998 introduction of Visage Q10, a skin care cream containing a human coenzyme that induces cellular changes to reduce wrinkles while smoothing and strengthening facial skin. Beiersdorf‟s own sales value in the segment rose by 85% between 1997 and 1999, increasing its share of the German face cream market from 16% to 18%. During the same period the overall market for face care products in Germany was growing, due, at least in part, to the emergence of the new Q10 value proposition. Radical and Incremental Innovations Innovation covers a broad spectrum of activities--ranging from incremental moves that offer marginal gains or additional choices to existing users, all the way through to radical steps involving the creation of new categories and markets, the introduction of new generations of products, and/or major changes in product performance that lead to significant changes in consumer behaviour. Radical innovation changes the way consumers perceive and use products. According to Procter & Gamble‟s Chris Start, VP Global Strategic Planning and Design in the Homecare Division, " 'Real innovation' improves and/or simplifies consumers' lives in a meaningful way. Anything less than this is a minor change, which may be a worthwhile improvement in itself, but it does not fundamentally alter the consumer's view of the product." With the commercialisation of the Nespresso System in 1987, Nestlé created a completely new category for portion coffee. Eight varieties of roast and ground coffee packaged in individually- portioned aluminium capsules were created for exclusive use in the Nespresso machine. This capsule-machine combination offers consumers a refined quality and individualised cup of espresso coffee with speed and convenience at the push of a button. While smaller rivals have since entered the market with lower-priced, lower-quality systems, Nespresso still dominates the household segment of the fast-growing portion coffee market with a 90% share. The technical complexity of the Nespresso System and related patents have proven to be major barriers to entry by other established players in the coffee market. While many of the sampled companies are focusing on incremental innovation aimed at growing existing brands and/or stretching brand values through product revitalisation (see Figure 3), our data shows that radical innovations have a far greater potential to increase market share and enhance sales growth than do incremental innovations. In other words, strong brand performance is, more often than not, the reward for “breakthrough” innovation. page 6 Figure 3 Pioneering a New Category Moreover, “pioneering” a new category through radical innovation has a lingering effect on brand performance. Evidence from the larger PIMS‟ database shows that 69% of pioneer brands maintain high relative market share positions in their respective categories, and 54% still enjoy high standing in perceived consumer value (see Figure 4). Figure 4 Pioneers Keep Their First-Mover Advantage * * measures taken 5 years plus after initial innovation % distribution of pioneers 45% High 9% Consumer Preference 24% 22% Low Low High Relative Market Share Source: PIMS fmcg database 1999 page 7 First-movers have an advantage. Philips was among the first to develop lighting systems to improve the quality of the home environment using colours in ways that had been previously pioneered by decorative paint manufacturers. The company subsequently developed spot and halogen lights ahead of its rivals, and was also the first to offer low-energy bulbs to appeal to cost-conscious, environmentally- aware consumers. When Chinese producers entered the German market in the 1990s with low- cost, low-energy bulbs in a „stick‟ format, Philips launched Ambience, a low-energy light that looked like a conventional decorative bulb. It took Osram, the number two European lighting manufacturer, 18 months to come up with a competitive response. Philips is currently working on the next generation of lighting products to maintain its category leadership. Launched in the US in 1995, Kimberly Clark‟s Kleenex Coldcare--a facial tissue coated with a “leave behind” lotion that was both softer to the face and more durable in use--was a major success. When research showed that many users continued using the tissue even after their colds had cleared up, the company‟s UK management team suggested an alternative coating process that lowered production costs while maintaining product performance. Re-branded as Kleenex Balsam, the tissue sells at a price premium and enjoys high consumer franchise. No competitor has yet been able to match Kimberly Clark‟s first-mover advantage in this area. Small Wins While the big wins are more apparent with successful radical innovations, our study shows that incremental innovation can still have a significant impact on sales growth, provided the innovation succeeds in substantially improving perceived consumer value (see Figure 5). Figure 5 Incremental innovation can deliver important benefits to retailers and consumers. European consumers typically purchase 4 kg. sacks of salt (to combat hard water) to use in their dishwashers, which usually have a storage capacity of just over 1 kg. In adding salt to the machines, spillage occurs quite easily. Seeing an opportunity to significantly improve consumer convenience, Unilever changed the packaging of its Sun dish-washing salt to a container with four 1 kg. boxes, each with an easy-to-open strip and pouring spout. This move, while incremental, immediately reduced waste and inconvenience, important benefits for consumers. More shelf- efficient and easier to stock than competitive offerings in flexible sacks, the new rigid packaging was also valued by retailers. Within two years, the company achieved a 10% increase in sales. page 8 Companies that are more active than their competitors in incremental innovation also achieve better marketplace results (see Figure 6). In other words, growth in both sales and market share are the rewards for a more active, albeit incremental, innovation process. Figure 6 Early Assessment of Consumer Value Assessing consumer value at the concept stage appears to be related to an innovation‟s potential for success in the marketplace. Figure 7 shows that brands that focus on consumer value at the initial stage of the innovation process achieve over twice the growth of those that do not. Figure 7 page 9 Gaining insight into how well consumers like and value a new concept--and feeding this information back into the R&D process--can help management identify, prioritise, and solve problems at an early stage, saving time, expensive reworking and belated testing later on. An early focus on consumer value gave Antonio Puig the edge. Focussing from the very start on evaluating concepts that would deliver the greatest perceived value to consumers, Antonio Puig came up with the idea to add oats (“avena”), a traditional ingredient of health products, to produce a shower gel that “cares for the skin”. As one of the technologists in the team behind the development of Avena Kinesia expressed it, “We set out to build the house from the roof down”. Launched in 1994 within a mere 10 months of conceiving the idea, Avena Kinesia achieved rapid distribution. Consumer response was so strong that production capacities were exceeded within six months. Avena Kinesia reached the number two brand position in the Spanish market by the time the large branded competitors, like Henkel, Sara Lee, and P&G began including “healthy natural ingredients” in their shower gels. By 1997/1998, when store brand copies arrived on the shelves, the “avena concept” had became a major sub- segment within the Spanish shower gel market. A Continuous Race for Innovation Advantage Brand performance and relative innovation are closely linked. Figure 8 shows that brands that continue to generate a higher proportion of sales from new products (when compared to the competition) tend to show a greater growth in market share and sales. Figure 8 Relative Innovation Advantage Drives Growth 20% Sales Growth 18% Share Growth 15% Share and Sales 10% Growth (%) 8% 5% 5% 3% 2% 1% 0% Lower Similar Higher % Sales from New Products Relative to Competitors Source: PIMS / IMD Measured over a period of up to 3 years Brand Innovation Study 1999 Further evidence from the cases studied shows that achieving relative innovation advantage requires the combination of a rapid innovation process, a sustained programme of continuous and planned innovation over time, and building in features and technologies that are difficult for rivals to copy quickly. page 10 While the race for innovation advantage applies to both brand leaders and challengers in any given market, our study shows that the stakes are not the same. Figure 9, which is based on PIMS‟ larger database, shows that when category leaders “pull ahead” of their smaller rivals by having a greater share of their sales from new products, they manage to hang on to their high relative market share. But there is no incremental gain in share. On the other hand, when such leading brands “fall behind” their challengers in relative innovation, they pay a penalty in loss of market share. Figure 9 Staying Ahead on Innovation Helps Drive Share Gain Annual Change in Relative Market Share 0 (% p.a. over 4 years) High -1.3 Starting Relative Market 2.4 Share 1.3 Low Falling Behind Pulling Ahead Source: PIMS Relative Innovation fmcg database 1998 For the smaller players, the picture is totally different. Pulling ahead in relative innovation, according to Figure 9, means a significant reward in incremental gain in market share--the highest shift upward. But, interestingly enough, falling behind in relative innovation does not automatically translate into a loss in market share--as is the case for leaders. Brand growth is linked to maintaining innovation advantage. Each year, Barilla Mulino Bianco identifies 100+ new product ideas in a bid to match changing consumer tastes, keep its entire range constantly refreshed, and stay more innovative than its competitors. With as many as three major new concepts launched every year, the company enjoys full support from the trade, which has come to expect and benefit from Barilla‟s innovations. Following the development of its Barex plastic pack in 1996--which prevented oxidation of pasteurised juice and thus extended shelf life by up to 12 months--Pampryl introduced a series of line extensions (packaging and flavours) that reversed the company‟s loss of market share and helped return this traditional brand to a leading position. Within two years, the combination of these innovations catapulted Pampryl to the number two position (from number four) in France‟s highly competitive fruit juice and nectar market where price- oriented brands and private labels currently account for a hefty 40% share. In fact, Pampryl‟s innovations helped grow the premium segment of the market. page 11 Speed to Market In addition to improvement in consumer value and relative innovation advantage, an innovation‟s speed to market is another factor in a brand‟s performance, as measured by the growth of market share and sales. Figure 10 shows that the fastest-growing brands tend to be those that deliver new offers to consumers within 12 months of the conception of an idea. Brands that take too long in bringing new concepts to market run the risk that others will get there first, or that consumer priorities will change. Figure 10 Getting to market both first and fast brings gains. Known for producing dessert milk products with excellent flavours, the Mona division of Campina Melkunie set out to develop a premium yoghurt that combined digestive health benefits with nutrition and good taste. Aware that its competitors had already entered other national markets with similar consumer value propositions, Campina avoided test marketing altogether in order to be first in the Dutch market. Vifit achieved almost 100% distribution after launch and sales grew rapidly. Similar products launched by Nestlé (LC1) and Danone have found it much more difficult to gain share. The Vifit concept has since been extended into additional yoghurt formats, fresh cheese, and drinks. In contrast, Unilever took two years to reformulate its Sun dish-washing detergent. By the time the new detergent powder reached the market, it was too late. Consumer attention was already focused on the convenience offered by two-layer tablets including rinse-aid offered by Benckiser and Henkel‟s perfumed tablets. page 12 THE VIRTUOUS CYCLE Advertising and Communication Leading brands are often associated with big advertising spend. At least that is what most people believe. Our evidence, as shown in Figure 11, demonstrates that nothing is farther from the truth. Figure 11 As can be seen, advertising as a percentage of sales has a strong but negative correlation with the starting relative market share. 2 A leading brand, enjoying a “high” market share relative to its competitors, typically spends only a fraction of what a “low” share brand spends. A highly plausible explanation for this counter-intuitive relationship is that there are strong economies of size in advertising. Figure 12, based on PIMS‟ larger database, shows the relationship between relative market share and total expenditure on communication (encompassing investment in advertising, promotion, selling, etc.). Although a less dramatic difference, once again we observe that the leading brands are not the biggest spenders on total communication; that dubious distinction belongs to smaller-share brands. Figure 12 2 We are using the “relative” measure of market share here to account for the differences in market concentration in the various sectors covered in our study. Using a relative measure allows us to compare shares in a highly fragmented market, such as cosmetics, with those in a highly concentrated one, such as powder detergents. page 13 Consumer Franchise Another important finding in our study concerns the relationship between advertising expenditure and a brand‟s strength in consumer franchise. Figure 13 indicates that there is, indeed, a negative correlation between a brand‟s consumer franchise, as measured by starting brand preference, and the share of total sales spent on advertising. The higher the ranking (i.e., the higher the perceived consumer value of the brand), the lower the actual expenditure on advertising. Figure 13 Perceived Value and Marketing Communication An important question arises here: Can a brand‟s inferior perceived value be compensated with higher communication spending? Or, put in other words, can a higher promotional expenditure alone reverse a lower initial consumer preference? Figure 14, based on PIMS‟ larger database, shows that brands with high initial rankings in consumer preference show the highest gains in relative market share, almost regardless of the relative levels of communication spending. Figure 14 High Advertising & Promotion Do Not Compensate for Lower Consumer Preference % p.a. change in relative market 1.4 share over 4 years 1 High Consumer Preference in Year 1 0.3 Low -0.9 Low High Advertising & Promotion over 4 Years Source: PIMS fmcg database 1999 page 14 High expenditures on advertising and promotion appear to have an important positive effect on market share only in cases of brands with high initial perceived values. In fact, the analysis points to a negative market share impact of high expenditures for brands that suffer from the outset from inferior perceived consumer value. Our research confirms that a brand‟s performance over time is far more dependent on the consumer‟s perception of its value than the sums spent on advertising and promotion. High communication budgets are no remedy for the poor perceptions of a brand’s value. In Spain, P&G brought a new proposition, Fairy hand dish-washing liquid, into a market where it had no previous presence. This concentrated detergent offered consumers superior grease-cutting ability, the convenience of a less weighty product to carry home, and a “cost- per-job” advantage of no less than 10% over other brands. The consumer value logic was compelling. In Britain, P&G used the Fairy brand, which was known in the UK hand dish-washing segment as “mild and kind to hands”, to launch its machine dish-washing detergent. The choice of the wrong brand to convey the message that Fairy is a powerful cleaner (a key desired benefit for the automatic dish-washing segment) led to weak consumer response. Despite an intensive communication effort, Fairy never moved beyond the number three position in this segment, having not communicated to consumers the added value that its technical performance actually provided. Rewards for Value Enhancement To summarise, our findings have shown that both sales and market share growth are the rewards for innovations that create significant improvement in perceived consumer value. Such innovations, when repeated over time, help drive a brand towards market leadership. But we have also witnessed that market leaders, i.e., those with high starting market share positions, enjoy decided economies in their communication expenditure. Our findings lead us to conclude that there is a virtuous cycle at work here: Brands that, over time, achieve a leading market share position for their record of significant consumer value creation are further rewarded by the need to spend relatively less on advertising or total communication to promote themselves. What is true of high-impact innovations is equally true of high relative innovation. Brands that represent high “relative innovation”--an index of innovation performance higher than those of rivals--enjoy benefits similar to innovations with significant consumer value creation. Once again the virtuous cycle is at work here: Brands with a stronger record of innovation and value creation are rewarded with a greater consumer franchise that, in turn, translates into a phenomenon of having to spend less on brand communication than their less innovative rivals. What is the bottom-line effect of such economies? As can be seen from Figure 15, when “preferred brands”, or those with higher perceived consumer value, are compared with brands that do not enjoy such franchise, the former shows higher returns on capital employed. page 15 Figure 15 The better returns are due possibly to the aforementioned economies, in addition to a preferred brand‟s ability to command a premium price and a higher margin. The higher returns confirm once again the logic of the virtuous cycle: The high innovators that have achieved a higher consumer preference and franchise enjoy far greater returns on their investment than other brands. The Elements and Imperatives: A Conceptual View of Innovation The different elements of the virtuous cycle of innovation highlighted above are represented visually in Figure 16 and elaborated below. Figure 16 Brand Equity Development Communication Innovation Consumer Value Consumer Value Value Proposition Creation page 16 There are three integral elements to the cycle as we have defined it so far: Innovation, Value, and Communication. It is the interaction among these elements that provides the imperatives and the force behind the virtuous workings of the cycle. The cycle starts with a brand‟s commitment of resources to innovation. Here, deep insights into consumer behaviour and needs are translated into a new product, with technology playing its role as an enabler. To be successful, the specific innovation has to lead to a greater consumer value than what is currently being offered in the marketplace. In fact, the relationship between innovation and value is what the imperative of consumer value creation is all about. However, unless the added-value thus created is communicated to and understood by the consumer, an innovation‟s full potential is never realised. In other words, the innovation‟s market potential is realised only after a persuasive consumer value proposition is formulated and effectively communicated to consumers. Communicating a persuasive value proposition to consumers. Responding to consumers‟ desire for more healthy eating, Unilever developed an olive-oil based spread for the UK market. Initially pitched to health- and weight-conscious consumers using a “low fat/low cholesterol” message, Olivio’s value proposition was not in any significant way different from what was being communicated by a large number of other low fat/low cholesterol spreads on the market. Olivio’s rise to success came only after brand management switched its communication to a different approach emphasising the product‟s Mediterranean heritage and pointing out the combined effects of diet and lifestyle on health. At a time when the Mediterranean way of life and diet were increasingly appreciated for their health-promoting effects, the revised brand value proposition became a convincing one. A convincing consumer value proposition is just that--a proposition. In the end, it is not the communication that decides the fate of an innovation, but the consumer‟s own experience with the product. An innovation that fails to stand up to its value proposition will fail regardless of how skilful the communication. To survive this acid test, the innovation must simply deliver on its promise. Assuming that the consumer‟s experience confirms the innovation‟s added and differentiated values, a trusting relationship is now established whereby the brand stands for more than just a product. The trust, and the expectations of higher perceived and delivered value, are the basis for the next imperative of brand equity development. Brand equity, as defined here, captures what we have referred to earlier as the qualities of a more preferred brand as it enjoys a higher perceived value. This concept is also responsible, as we have seen, for the greater efficiency in communication and the higher returns on capital invested. Indeed, it is the better economics that explain the virtuous upward spiral of our cycle. At the end of its full first circle, a differentiated and “preferred” brand potentially enjoys a combination of incrementally higher sales and market share, lower communication costs, and a greater return on invested capital--all of which should provide further resources and incentive for another round of innovation. But a virtuous cycle can also be broken. It can happen in several ways. First, an innovation can fail to create a differentiated added-value. As we saw earlier, innovations that do not generate a significant improvement in consumer value fail to have a significant impact on sales or market share--the bases for improved economics. page 17 Second, the differentiated added value can be potentially high, but poorly communicated. Failing to develop a compelling consumer value proposition can undermine any innovation. Third, and potentially perhaps most damaging, the success of initial rounds of innovation fails to trigger future rounds of innovation. Brand management becomes complacent, only too happy with the improved market standing and enhanced brand equity. Priorities are shifted elsewhere, and the innovation process is left starving for resources. It is therefore in the brand-builder‟s best interest to stay in the innovation race as there is no room for spectators, only winners and losers. page 18 APPENDIX Definitions of Key Terms used throughout this Report Innovation While innovation can pertain to a change in any of a number of business practices, the innovations we studied primarily relate to changes in product design, content, functions, and performance. These changes represent a departure from the past and are meant to offer additional benefits to target consumers. Perceived consumer value Perceptions of value drive consumer choice and decision. These perceptions can pertain to expectations of a product‟s tangible functions (e.g., how clean a detergent washes greasy dishes, or how “freshly squeezed” an orange juice tastes) or intangible qualities (e.g., a new “modern” design for decorative crystal products, or a “younger skin” for a new anti-ageing facial cream). Either way, consumers define value by how they perceive competitive offers and their features (including price) and benefits, both tangible and intangible. Consumer preference To overcome the difficulties inherent in measuring perceived consumer value, we have used “consumer preference” as a surrogate for perceptions of value. Consumer preference reflects the combination of a brand‟s performance along both tangible and intangible parameters as perceived by its target consumers and as measured and reported by management. Brand performance We have used growth in sales and/or market share and returns on investment as the yardsticks for measuring a brand‟s overall health or the impact of specific management actions. Relative market share Relative market share is calculated by dividing a brand‟s share of its market by the sum of the shares of the top three competitors in order to allow for meaningful comparisons of market share performance among product categories with differing degrees of fragmentation and concentration. ROCE A measure used to represent a brand‟s profitability, Return on Capital Employed is calculated by dividing profits (before interest and tax) by the capital employed as defined by total fixed assets at net book value plus working capital. A positive change in ROCE implies an incremental increase in a brand‟s profitability; a negative change means a decline. page 19 IMD, which stands for the Swiss-based International Institute for Management Development, is an independent, not-for-profit foundation specialising in management research and executive development. IMD is one of Europe‟s leading business schools with a world-wide reputation for its executive programmes. PIMS, which stands for Profit Impact of Market Strategy, was founded by the Strategic Planning Institute as an evidence-based strategic consulting organisation. PIMS has worked with business managers and compiled market and competitive profiles on thousands of businesses in many industries operating in regional, national, and international markets. Using this evidence, PIMS has undertaken extensive analysis of key success factors to support its work on performance improvement. AIM, which stands for the European Brands Association, represents the branded goods industries in Europe on key issues which affect the ability of brand manufacturers to design, distribute and market their brands. AIM‟s membership groups 1600 companies of all sizes through corporate members and national associations in 20 countries. These companies are mostly active in fast moving consumer goods.