Innovative companies don’t need to be those that are early stage or particularly associated with technology, according to some long established investors.

Francois De Bruin, who runs the Aviva Investors Global Endurance fund, told FTAdviser Vantage Point that long established companies in areas of the old economy, such as Costco, are able to win market share relative to rivals due to what he calls “network effects”, and share the benefits with their customers.

Network effects are those which mean that the value of a good or service increases for all customers when more customers begin using a service.

The most obvious way this happens is when a social media site gains additional users, and so becomes more useful to each additional user.

That argument underpinned the investment case cited by many investors in social media companies, but subsequently undermined as new social media entities were able to emerge and challenge the incumbents.

De Bruin believes social media companies are actually a poor example of the benefits of the network effect as the benefits of scale are not directly passed on to existing users of the sites.

Instead he feels companies which invest the gains they make in “enhancing the customer experience” are more likely to both retain their existing customers and get new ones.

He said: “By sharing the benefits of economies of scale with their customers, they are doing something which rivals can find hard to compete with. Of course technology has made it much easier for these network effects to occur in different industries. It is also very important that the management team are on board with this, that they are committed to reinvesting the profits, to sharing them with the customers. The natural arc of business is that management teams eventually become lazy and don’t innovate or reinvest. But the companies that do, those are the long-term winners, because they are companies that focus on what customers want.”

Nigel Green, chief executive at De Vere Group, said that while the economic climate is presently uncertain, he feels that companies which can “provide stability and resilience. Companies with solid financials, strong management teams, and competitive advantages are more likely to weather market volatility.”

De Bruin said the higher interest rate environment may enhance the value of companies that have network effects as customers become more cost conscious and so may be more inclined to switch.

He cited industrial businesses as well as retail and some financial services businesses as examples of where network effects may presently be found.

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