“Over Time, the Market Will Demand This Information”

Vanguard, the mutual fund company known for its low-cost index funds, frequently shows up on lists of organizations with the most-loyal customers—and that’s no accident. During his tenure as CEO, from 1996 to 2008, Jack Brennan emphasized what he calls the virtuous circle of attracting loyal clients who stick around and create new ones through word of mouth. Now Vanguard’s chairman emeritus, he is a leading voice on corporate disclosure issues and has held positions at the Financial Accounting Foundation, the Financial Industry Regulatory Authority, and the Investment Company Institute. Brennan spoke with HBR about why companies should want to tell investors more about their customers—and how soon they may be required to. Edited excerpts follow. HBR: How did you become interested in customer value? Brennan: In our business, the highest-cost thing we do is attract and onboard new clients. So why wouldn’t we be driven to increase the loyalty of those clients? This isn’t differential calculus. When customers leave, you have to replace them, and we’d prefer to avoid that expense. So we have followed Bain & Company’s loyalty research very closely for many years. In the years since I became Vanguard’s CEO, managing for loyalty has gone from an intuitive idea to a conceptual goal to an operational practice. Across businesses in general, this is still underexposed and undervalued as a concept. Rob Markey’s new work on using loyalty metrics to better understand and manage the value of a firm is the next evolution of this idea. Where do you see these new techniques being used? The place where I’ve seen this play out most aggressively is in private equity. If you talk to private equity firms about the due diligence they engage in when they’re buying a company, the customer base is a critical part of what they’re looking at. It’s intense. They’re asking senior management: What’s the nature of your customer base? How are you acquiring customers? How are you losing them? Which ones are profitable? They’re interested in individual customer accounts and transaction data. A debate is currently going on about whether investors who are buying not an entire company but, say, 1,000 shares should have access to some of the same information about the core value of the customer base that private-market investors see in their due diligence process. I think they should. Are Vanguard’s portfolio managers using customer valuation tools? I’m not close enough to their work to know, but I do see other public-market investors using them. One portfolio manager I know runs a very concentrated fund—it holds eight to 10 stocks at a time, with essentially zero turnover. Because he’s holding very few stocks for a very long time, he thinks more like an owner. He approaches each investment as if he’s buying the whole company. Among the first things he does is conduct a deep study of the customer base—its breadth, its depth, its growth. He even hires third parties to help with the analysis. That’s an example of how investors don’t simply rely on the customer data that the company discloses—they actively seek out data on their own. If you walk into a Walmart, there’s usually somebody in there counting something for an analyst. Investors sometimes even hire investigative reporters to dig up information. They’re trying to learn as much as they can about a company’s customers. How do regulators decide whether or not to require more disclosure on customer metrics? I’ve been working on issues around financial disclosure for many years, and it’s a fascinating process. The Financial Accounting Standards Board (FASB) is always balancing what’s valuable to investors against what’s overly burdensome or competitively disadvantageous to companies. Do shareholders have access to enough material information to judge the company’s risks and performance? How much is too much disclosure? What’s verifiable? Regulators are leery of being presented with non-GAAP measures—metrics that don’t conform with generally accepted accounting practices. They worry about clutter risk—the distraction created by too much data that’s not very meaningful to investors. Companies worry about being forced to reveal information that could help their competitors. There’s always tension and stress around the prospect of new reporting requirements, and it’s not irrational. But the debate that goes into standard setting is healthy and valuable. Amazon has millions of Prime subscribers, but it won’t say exactly how many, so analysts are left to guess. What’s the harm in disclosing that number? Prime members are obviously a critical part of Amazon’s business model. But executives may choose not to disclose the number because they don’t want investors to fixate on any one metric. Think about the way investors watch Netflix subscriber counts. Amazon probably wants to avoid investors’ reacting every time Prime subscriber numbers go up or down. Top management might also argue that disclosing the number puts the company at a competitive disadvantage—even though it doesn’t really have a head-to-head competitor. What does the timeline for more disclosure look like? If shareholders demand disclosure, it will get the attention of the Securities and Exchange Commission, and FASB will weigh in on whether it can be done well. I do think regulation will happen; the question is at what pace? It always feels too slow to me. I think it is still years away, but over time, the market will demand it. I don’t think you’ll see standardized, fine-tuned Net Promoter Scores as part of corporate financial statements any time soon, but some information about customers will probably be required in the not-too-distant future in the management disclosure and analysis (MD&A) section of the annual report or in the footnotes. That’s how regulators have treated disclosures about executive compensation and environmental, social, and governance data. Requirements could begin with something as simple as “We had X number of customers on December 31 of last year and Y number on December 31 of this year,” with a little bit more granularity. Companies that are proud of their customer base and loyalty have an incentive to disclose more, of course. Creating a virtuous circle of loyal customers is one of those self-evident ideas that you can’t emphasize enough.

“Over Time, the Market Will Demand This Information”

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