Industry Analysis : Presented by Supervisor

Chapter 6
Industry Analysis…
Supervisor :
Dr. Emad Abu Shaaban
Presented By …
Mohammad M. Mortaja
Amjad A. Skaik
1
Contents
1 Industry classification.
2 External factors.
3 Demand analysis.
4 Supply analysis.
5 Profitability.
6 International competition and markets.
2
Introduction
The analyst begins serious research at the industry level.
The analyst receives Top Down economic and capital market for
ecasts from others.
His initial responsibility is tying these macro parameters into a

n industry outlook.
3
Introduction
4
Introduction…
An in-depth study of the industry is thus a prerequisite for a prop
er security analysis.
Industry outlook The security analyst is responsible for studyi

ng the industry and evaluating the company, taking into account
economic forecasts.
5
Introduction…
Specific analysis.
6
Background…
Not all companies have
prospects mirroring the
broader view.
Some perform better than
the general expectation,
others worse.
7
Background…
 Consider the pharmaceutical industry in October 2007.
 The established chemical-based drug companies were mire
d in the industry’s image of operating problems, expiring p
atents, and a shortage of new drugs.
 As a result, their P/E ratios suffered.

8
Background…
 In contrast, younger biotech-oriented enterprises carried
premium P/E ratios, as the market showed interest in

their strong product development programs.
Broad Industry Trends…
The competent analyst has a broad knowledge of the industry he covers.
but his research reports generally have a narrow focus, limitin

g reviews of the major industry trends to those that are likely t
o affect a specific company’s performance .
10
As the subject company grows larger, the industry ana

lysis becomes increasingly complicated.
Most major corporations today have multiple industry

lines, many of which are not comparable.
11
General Electric has 14 separate divisions producing pro

ducts as dissimilar as gas turbines and consumer electronics
For those firms with disparate businesses, the industry anal

ysis evolves into an industries analysis.
12
Contrary Opinions…
Most sell-side research analysts, and many buy-side, a
re reluctant to stick their necks out.
They follow the herd and, as a result, their reports ar

e disappointingly similar.
13
Contrary Opinions…
When a practitioner has a strikingly different conclusi
on than everyone else, he tends to couch it in vague ter
ms.
The depressing outcome of this environment is that mo

st analysts , particularly those on the sell side , are reduced t
o arguing about a company’s next quarterly earnings report.
14
ORGANIZING AN INDUSTRY ANALYSIS
External factors Industry classification
Industry
Demand analysis International competition
Analysis and markets
Supply analysis Profitability

Industry classification
Life cycle position

Industry
classification
Business cycle
16
Life cycle position
pioneer life cycle theory outlines four
phases. These mark the beginning
growth
to the end of an industry
Life cycle position

mature
decline
17
Life cycle position…
18
pioneer phase…
pioneer phase is the riskiest point of corporate life .
WHY?
Because…
At this point the industry is struggling to establish a market for its prod
ucts.
Cash needs for working capital and fixed assets are substantial.
 The industry is losing money or is only marginally profitable.
19
growth phase…
Practitioners acknowledge the industry’s product acceptance a
nd have a brief historical framework for estimating future dem
and.
BUT…!!!
How far and how fast?
20
growth phase…
Growth industries occupy a large amount of analysts’ time, bec
ause they can provide excellent returns.
Growth industries frequently enjoy fat profit margins.
21
Mature industries…
If growth industries have above-average sales and earnings inc
reases, mature industries are those producing average results.
How it would be Mature industry??

There are two ways…
22
Mature industries
1st …
They gain market share by offering an improved quality or ser
vice.
2nd …
A Company grows in a mature industry by gobbling up other participan
ts.
e.g. Acquiring Competitors.

23
Decline Phase…
Demand for the industry’s products decreases and the remaining p
articipants fight over shares of a smaller market.
The industry attracts little new capital and established competito

rs begin to exit the sector.
24
Decline Phase…
The better-managed survivors anticipate this fate and avoid it by
using excess cash to diversify into more promising industries.
Alternatively, companies develop new products to respond to the c

hanging client base.
25
Business Cycle Reaction…
Growth Business
Defensive Cycle
Cyclical Reaction
26
27
1. Growh. Above-normal expansion in sales and profits occurs in
dependently of the business cycle, Even if the economy is in a recession
.
e.g. The Internet retailing industry sailed through the 2001 recess
ion with ever higher revenues.
28
2. Defensive. Stable performance continues during both ups a
nd downs of business cycle.
 Sales and earnings proceed in an upward direction.

 Usually fall into the mature category of the life cycle.
29
(1) electric and gas utilities

(2) food, cigarette
(3) government contractors
30
3. Cyclical. Profitability tracks the business cycle, often

in an exaggerated manner.
benefit from economic upturns, but they also suffer from l

arge earnings declines in a downturn.
31
Cyclical vs Defensive Industries

Cyclical industries are the ones that show above-average sensitivity to the
business cycle, state of the economy.

Defensive industries are the ones that show little sensitiviy to the business
cycle.

Choose cyclical industries when you are optimistic about the economy and
choose defensive industries when you are pessimistic about the economy.
The characterization of an industry through the lif
e cycle or business cycle techniques tends to color t
he follow-up analysis.
2nd problem @ industry classification …
self-deception.
33
self-deception.
Example
Growth classification
Internet Services Cable TV
hooked into the home • hooked into the
by wire… home by wire
Monthly charges… more closely
not a quasi • Monthly charges.
monopoly… • Quasi-monopoly
Customers switched
suppliers…
Stock valuations dropped accordingly.

34
Growth
Cyclical
Defensive
U.S
Economy
35
External Factors…
External
External Factors
Factors
Technology Government Social Demographic Foreign

No industry operates in a vacuum. Each is subject to nume
rous outside influences that significantly impact sales and e
arnings.
The first stage of the Top-Down Analysis factors in the criti

cal economic variables that affect industry performance
37
Top-Down Analysis…
Top-Down Analysis
A method of analysis that involv
es looking at the "big picture" fir
st, and then analyzing the detail
s of smaller components.
38
EXTERNAL FACTORS
Key External Factors Affecting Sales and
Profitability
39
Technology…
Technological factors: new technologies create new p

roducts and new processes.
e.g.
The eyeglass industry, has competed successfully agai
nst LASIK and contact lens technologies.
40
Technology…
new technology proves to be both a blessing and a cur

se.
e.g.
Nuclear power
41
Nuclear power…
e.g. Nuclear power
Blessing Curse
transferred
to electric
utilities
42
Technology…
The established industry usually has several

years in which to prepare a defense.
A common strategic response is in either of t

wo directions:
43
Technology…
Buy the Strategic Copy the

competition response competition,
44
Government…
Government taxes, laws, and regulations impact every ind
ustry in the United States.
The quota levied on Japanese auto imports, for example , p

rotects the sales and earnings of domestic producers.
45
Government…
Business organizations constantly complain about reg
ulation, but many regulations have a role in promoting
worker safety, consumer protection, and fair play.
Federal and state reimbursements account for over hal

f the drug industry’s revenues.
46
Government…
Nations set up other barriers to protect favored i
ndustries from outside threats. Japan, for example,
has a maze of regulations that limit U.S. agricultur
al imports, thereby assisting Japanese farmers.
47
Social…
Social factors frequently boil down to lifestyle

and fashion changes.
48
Fashion Style…
fashion is the more unpredictable , and this makes the j
ob of researching fashion-oriented industries complicated.
 The women’s fashion cycle, is quite short, and one hot

clothing item may have a shelf life of just six months,
before it is replaced by another style.
49
Lifestyle…
Lifestyle changes, in contrast, take place over long peri
ods and the affected industries react accordingly.
The gradual shift of women into the workforce, from 4

4 percent in 1970 to 61 percent in 2005, and the subu
rbanization of society, acutely affected the auto busin
ess.
50
Demographic…
Demography is the science that studies the vital st
atistics of population, such as distribution, age, an
d income.
Demographic trends unfold over long periods, and

they are thus easier to identify and track than most
other external factors.
51
Foreign…
As global trade expands, industries become se
nsitive to foreign influences.
U.S. industries are under assault from foreign

competitors, particularly from competitors bas
ed in China.
52
Foreign…
In acknowledging the expansion of global t
rade, analysts evaluate selected industries o
n a global basis.
53
Keeping Your Focus…
Isolating the critical elements in an external a
nalysis is difficult, and most research reports f
ail in this regard.
The end result: Analysts extrapolate the past i

nto the future, and fail to uncover changes that
move an industry’s sales off historical trends.
54
Case Study: U.S. Casino-Style Gambling
Industry
The industry is considered to be growth-orient
ed for two reasons:
1st…
States without gambling are gradually lega
lizing casinos, in order to realize tax reven
ue captured by neighboring states.
55
Industry
2nd…
States that already have casinos are
authorizing more locations in order t
o generate money from the taxing of
additional gambling activity.
56
Industry
Gambling is a defensive industry in terms of

the business cycle, since gamblers continue s
pending during recessionary times
Gambling industry is essentially a regulated ol

igopoly.
57
Demand Analysis…
 The purpose of preparing an economic analysis, industry
life cycle placement, and external factor review is …
an assessment of future demand for the

industry’s products.
 Applying such study to numerical forecasts is
accomplished differently !!!!
58
Demand Analysis…
Top-down economic analysis
 We look for specific macroeconomic variables
that affect industry performance.
 ideal situation is when an industry’s

revenues correlate strongly to one key
economic statistic, thus reducing the
need for multiple inputs.
59
Demand Analysis…
Industry life cycle.
 Categorizing the industry within its life cycle position

(or its business cycle sensitivity) provides a
framework for demand forecasts.
 guide to sales changes.
60
Demand Analysis…
External factors.
 Some outside factors are stable, and their
impacts on an industry are predictable. Others
are highly variable and bring uncertainty into
the analysis.
61
SWOT
Strength
Internal
Weaknesses
Exte Threats
rnal
Opportunities
62
U.S. Casino-Style Gambling Industry: External Factors
Technology
Threats
Opportunities
enables new
permits gambling entrants to
over the Internet. compete with
established firms
more easily.
Government
Opportunities Threats
States can increase
More states can
gambling taxes.
legalize casino-
style gambling.
Social
In the past, American
Gambling is
culture cycled between
increasingly viewed
an acceptance of
as an entertainment,
legalized gambling and
rather than a
a near total prohibition.
dangerous vice.
Will the cycle turn?
Demographics
Opportunities
Older people gamble Threats
more than younger
people. The U.S. No perceived
population is aging, threats
suggesting more
demand.
Foreign
Rising affluence of
Asian and Latin Internet gambling
American clientele that is conducted
boosts revenue offshore diverts
from gambling U.S. customers.
tourism.
Top-down economic analysis.
Future sales line

Industry life cycle.
for the industry
External factors.
69
Customer Study…
Who is buying and why?
A forecast of aggregate demand is helpful, but a full
understanding of what drives an industry’s revenue
is only achieved through learning about the
customers.
70
Customer Study…
 Since a typical industry serves thousands of clients,
evaluating them individually is impossible.
 Segmenting the customers into submarkets enables

the analyst to study a smaller number of factors that
contribute to the demand.
71
Customer Study…
72
Established Industries…
For established industries, an analyst should
contact long-time customers to figure what
drives demand in each submarket.
HOW !?!!
By Discussing some questions …

73
Established Industries…
 What guides the customer’s buying decisions?
 How does this differ by submarket?
 What changes are occurring in the customer’s motivation?
 What implication does this have on industry revenues?
Discussions with customers and a study of buying

habits provide an indication of whether prior trends
continue.
74
Growth Industries…
A growth industry has yet to penetrate all its future
submarkets. In addition to researching the existing
customer base, the analyst considers potential new
outlets.
e.g.
The cell phone business, was initially confined to
adults. In recent years, it expanded to teenagers.
75
Untested Industries…
76
77
78
Add your company slogan
79

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Chapter 6

His initial responsibility is tying these macro parameters into a

Industry outlook The security analyst is responsible for studyi

atents, and a shortage of new drugs.

 As a result, their P/E ratios suffered.

 In contrast, younger biotech-oriented enterprises carried

premium P/E ratios, as the market showed interest in

The competent analyst has a broad knowledge of the industry he covers.

but his research reports generally have a narrow focus, limitin

o affect a specific company’s performance .

As the subject company grows larger, the industry ana

Most major corporations today have multiple industry

General Electric has 14 separate divisions producing pro

For those firms with disparate businesses, the industry anal

They follow the herd and, as a result, their reports ar

The depressing outcome of this environment is that mo

External factors Industry classification

Supply analysis Profitability

Life cycle position

Life cycle position

Growth industries frequently enjoy fat profit margins.

How it would be Mature industry??

e.g. Acquiring Competitors.

The industry attracts little new capital and established competito

Alternatively, companies develop new products to respond to the c

 Sales and earnings proceed in an upward direction.

(1) electric and gas utilities

3. Cyclical. Profitability tracks the business cycle, often

benefit from economic upturns, but they also suffer from l

2nd problem @ industry classification …

Stock valuations dropped accordingly.

Technology Government Social Demographic Foreign

The first stage of the Top-Down Analysis factors in the criti

Technological factors: new technologies create new p

new technology proves to be both a blessing and a cur

The established industry usually has several

A common strategic response is in either of t

Buy the Strategic Copy the

The quota levied on Japanese auto imports, for example , p

Federal and state reimbursements account for over hal

Social factors frequently boil down to lifestyle

 The women’s fashion cycle, is quite short, and one hot

The gradual shift of women into the workforce, from 4

Demographic trends unfold over long periods, and

U.S. industries are under assault from foreign

The end result: Analysts extrapolate the past i

Gambling is a defensive industry in terms of

Gambling industry is essentially a regulated ol

an assessment of future demand for the

 ideal situation is when an industry’s

 Categorizing the industry within its life cycle position

 guide to sales changes.

Future sales line

 Segmenting the customers into submarkets enables

By Discussing some questions …

 How does this differ by submarket?

 What changes are occurring in the customer’s motivation?

 What implication does this have on industry revenues?

Discussions with customers and a study of buying