Industry life cycle analysis

Many industrial economists believe that the development of almost every industry may be analyzed in terms of a life cycle with four well defined stages:

(1) Pioneering
(2) Rapid growth stage
(3) Maturity and stabilization stage
(4) Decline stage

Pioneering Stage: During this stage, the technology and or the product is relatively new. Lured by promising prospects many entrepreneurs enter the filed. As a result, there is keen, and often chaotic, competition. Only a few entrants may survive this stage.

Rapid Growth Stage: Once the period of chaotic developments is over, the rapid growth stage arrives. Thanks to a relatively orderly growth during this period, forms which survive the intense competition of the pioneering stage, witness significant expansion in their sales and profits.

Maturity and Stabilization Stage: After enjoying an above average rate of growth during the rapid growth the industry enters the maturity ad stabilization sage. During this stage, when the industry is more or less fully developed, its growth rate is comparable to that of the economy as a whole.

Decline stage: With the satiation of demand, encroachment of new products, and changes in consumer preferences, the industry eventually enters the decline stage, relative to the economy as a whole. In this stage, which may continue indefinitely, the industry may grow slightly during prosperous periods, stagnate during normal periods and decline during recessionary periods.

Evaluation and investment implications: The experience of most industries suggest that they go through the four phases of the industry life cycle though there are considerable variations in terms of the relative duration of various stages and the rates of growth during these stage. Because of these variations it may not be easy to define what the current stage is, how ling it last, and what would be its precise growth rate.

The broad validity of this theory and its general message that there is a definite trend towards retardation of growth rates has several implications for you as an investor.

1. Give industry analysis prior attention in your investment selection process.
2. Display caution during the pioneering stage – this stage has an appeal primarily for speculators.
3. Respond quickly and expand your commitments during the rapid growth stage.
4. Moderate your investment during the maturity stage.
5. Sensibly disinvest when signals of decline are evident.

Study of the Structure and Characteristics of an industry:

Since each industry is unique, a systematic study of its specific features and characteristics must be an integral part of the investment decision process. Industry analysis should focus on the following:

Structure of the industry and nature of competition

1. The number of firms in the industry and the market share of the top few (four to five) firms in the industry.
2. Licensing policy of the government
3. Entry barriers if any
4. Pricing policies of the firm
5. Degree of homogeneity or differentiation among products
6. Competition from foreign firms
7. Comparison of the products of the industry with substitutes in terms of quality, price, appeal and functional performance.

Nature and Prospects of Demand:

1. Major customers a their requirements
2. Key determinants of demand
3. Degree of cyclicality in demand
4. Expected rate of growth in the foreseeable future

Cost Efficiency and Profitability:

1. Proportions of the key cots elements, namely raw materials, labor, utilities, and fuel
2. Productivity of labor
3. Turnover of inventory, receivables, and fixed assets
4. Control over prices of outputs and inputs
5. Behavior of prices of inputs and outputs in response to inflationary pressures
6. Gross profit operating profit and net profit margins
7. Return on assets earning power and return on equity

Technology and Research:

1. Degree of technological stability
2. Important technological changes on the horizon an their implications
3. Research and development outlays as a percentage of industry sales
4. Proportion of sale growth attributable to new products.