The Customer Confidential Podcast

Beating Expectations: The Impact of Loyalty on Corporate Valuations

Morgan Stanley’s Michael Mauboussin explains expectations investing and how to strike the balance between customer happiness and shareholder value.


Beating Expectations: The Impact of Loyalty on Corporate Valuations

This is part one of a two-part conversation with Michael Mauboussin. Listen to part two here.

Enduring customer loyalty leaders, on average, produce two to three times the total shareholder return that their peers generate. In fact, they also generate two to three times the return you would get by investing in a total market index fund. While it is not surprising that loyalty leaders outgrow and outearn their competition, I find it striking that the value of loyalty isn’t priced into public company equity valuations.

For Michael Mauboussin, head of Consilient Research at Counterpoint Global, Morgan Stanley Investment Management, valuing a company requires much more than extrapolating historical revenue and earnings, calculating discounted cash flows, and comparing to industry average ratios. He developed a strategy called expectations investing, summarized in a great book he authored with Alfred Rappaport almost 20 years ago. His approach takes into account customer behavior, loyalty, retention, industry trends, and broader economic conditions, recognizing that investors’ predictions about a company’s future performance influence stock prices.

“The economics of customers is a match made in heaven for expectations investing because it fits hand in glove when thinking about whether stocks are correctly valued,” Michael says.

But customer loyalty can’t be pursued at all costs. Overinvesting in service and mispricing products can lead organizations down the unsustainable path of “buying” loyalty. Delivering value for your customers should ultimately generate referrals, repeat purchases, and a willingness to pay a premium.

“Companies that are able to achieve [customer loyalty] over periods of time are fabulous. And to be clear, those reflect revisions of expectations,” Michael says. “If you look at a lot of the great-performing stocks over time, that has to reflect, ultimately, a revision in expectations.”

He emphasizes that investments in earning customer loyalty can be hard to evaluate in the moment. When evidence of their efficacy becomes available, they tend to find their way into corporate value by forcing a revision in expectations of future growth.

“The market’s pricing in some sort of future stream of cash flows. Two years from now, the cash flows will come in and they’ll still be anticipating future value creation they didn’t at the outset,” Michael says.

What it boils down to is “thinking about the trade-off between rocking your NPS scores because you’re doing a great job, and at the same time taking care of the health of the business.” Of course, Michael and I share this perspective. His work references mine, and mine builds on his. I’m a Mauboussin fan and have been for a long time.

In this episode, Michael and I explore why loyalty leaders generally outperform their peers on total shareholder return. We also talk about how customer behavior and loyalty affect investor expectations.

In the following excerpt, we discuss Michael’s thoughts on unit economics.

Rob: Unit economics reflects the fundamental behaviors of a customer related to a company and the value exchange at the heart of that. Is that consistent with the way you think about it?

Michael: I like to think about it very simply: How does the company make money? We typically offer a good or service to a customer. They have some willingness to pay. And we absorb costs. And then if revenues are greater than costs, we’re in good shape. You can distill it down to that basic equation.


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