Thursday 12 January 2012

IP and Stock Market Returns

#alttext#Deleting a bunch of (unread) emails a few days ago, this author spotted one with the contents of the Summer Edition of the MIT Sloan Management Review. An article on "The Business Models that Investors Prefer" by Weill et al attracted his attention. It's abstract suggested an overview of new research which indicating that the stock market valued business models based on innovation and intellectual property.

The authors (and more than twenty of their students) have taken the time and trouble to classify the business models used by 10,000+ publicly quoted companies on US stock exchanges into several categories. They identified four assets types (financial, physical, intangible (our friend!) and human, as well as four ways in which companies exploiting these assets (creators, distributors, landlords and brokers). The revenues were then allocated among each of these categories. As the authors explained, this allows companies with similar business models to be compared as well as seeing trends in the data. The data extends beyond the 2008 Global Financial Crisis into 2009.

Alfred Sloan - invested heavily in
Automobile Innovation

Intriguingly 81% of total revenue still comes from physical assets, according to their work and manufacturing generated 57% of all company revenues. This seems to this author to be counter-intuitive to the frequently heard statement that physical assets are becoming less important in the US economy. On the other hand, the revenues recorded are presumably the world-wide revenues for US companies whose manufacturing units may be based in South-East Asia. Investors rated these companies highly. Financial assets performed badly - not surprising when one considers that the data encompassed the meltdown of the financial companies.

Most intriguing was the observation that so-called IP landlords had the second best stock market performance. These are companies that use licenses or subscriptions to sell rights to use their intellectual property. The examples quoted are the New York Times and Microsoft. The best perfumers were innovative manufacturers who are presumably also massively exploiting their own intellectual property.

It's the first study that I've seen which has tried to go beyond using patent data as a proxy for innovative activity. Patents are really only good at measuring technical innovation. The likes of Disney or the New York Times have few - if any - patents but are clearly innovative in exploiting their intellectual property (more copyright and brand-related issues).

The authors demonstrate clearly that investors like innovative manufacturing business models. There is a question left unanswered by the paper: do investors prefer innovative manufacturing and/or IP landlord business model because they produce better returns on the investment - or is there a herd instinct here? Are investors piling into such companies because their contemporaries are doing the same. What is ultimately better economically?

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