INDUSTRY ANALYSIS
Industry analysis indicates to an investor whether the industry is a growth industry or not. It gives an investor a choice of the industry in which the investments should be made.
Industry analysis refers to an evaluation of the relative strength and weakness of particular industries which can be divided in to three parts, viz.,
1- Life cycle of an industry.
2- Characteristics of an industry.
3- Profit potential of an industry
1- Life cycle of an industry:-
Marketing experts believe that each product has a life cycle. In the same way industry is also said to have a life cycle. They are
(a)- Pioneering Stage: Technology and product are newly introduced.
(b)- Expansion stage: Those companies which reached first stage grow further and becomes stronger.
(c)- Stagnation Stage: In this stage the growth of the industries Stabilizes. Sales increases at slower rate.
(d)- Decay stage: The industry becomes obsolete and gradually ceases to exist.
2- Characteristics of an industry:-
In an Industry Analysis the analyst should consider a number of key characteristics.
(a)- Relationship between Demand & supply: Excess supply reduces the profitability of the industry and insufficient supply tends to improve the profitability. Thus an investor should estimate the demand and supply gap in an industry.
(b)- Period of life: Life of the industry depends on the products and the technology used by the industry. Technological changes leads to product obsolete. No investment should be made in such industries.
(c)- State of labour: When there is labour revolution, industries cannot become bright.
(d)- Governments attitude: The Government may encourage the growth and development of certain industries by giving much assistance to such industries.
(e)- Availability of Raw Material: An industry may depend on internal / external country for raw material. Sometimes they depend on import of raw material.
(f)- Cost structure: It refers to the proportion of fixed costs to variable costs. (Discuss about Marginal Cost).
3- Profit potential of an industry:-
It depends on the following:
(i)- Threat new entrants: New entrants inflate cost, push down the prices and reduce profitability. An industry which is well protected from the entry of new firms would be ideal for investment
(ii)- Competitions among existing firms: The firm competes with each other on the basis of price, quality, promotion, service, warranties and so on. If the rivalry between the firms in an industry is strong average profitability of the industry may be discouraged.
The rivalry in an industry is high when the following conditions prevail in the market:
(a)- There is a sustained competitive battle.
(b)- The industry growth is dull.
(c)- The level of fixed cost is high.
(d)- There is over capacity in the industry continuing for a long time.
(e)- The industry product is considered as a commodity, which stimulates strong competition.
(f)- The industry struggles much to withstand.
(iii)- Pressure from substitute products: Each firm in an industry face competition from other firms in the same industry producing substitute products. Substitute products may affect the profit potential of the industry badly.
The pressure from the substitute products is found to be high under the following circumstances:
(a)- When the price of the products is attractive
(b)- When the cost for the prospective buyers to switch over to a substitute product is minimum.
(c)- When the substitute products are earning greater profits.
(iv)- Bargaining power of buyers: Buyers can bargain for price reduction asks for better quality and better service.
The bargaining power of a buyer group is said to be high under the following conditions:
(a)- If its capacity to buy is more than the capacity of the seller to sell.
(b)- If the cost of the switch over to a substitute product is low.
(c)- If it poses a threat of backward integration strongly.
(v)- Bargaining power of sellers: Sellers also can exert a competitive force in an industry and bargain for rise in prices, lower quality, curtail some of the free services they offer etc. Powerful suppliers can affect the profitability of the buyer industry badly.
Suppliers are said to be powerful under the following circumstances:
(a)- Few suppliers dominate the entire market.
(b)- There is no viable substitute for the products supplied.
(c)- The switching poses a strong threat of forward integration.
(d)- Suppliers also pose a strong threat of forward integration.
