Industry Analysis – Compete Beginner’s Guide

What is Industry Analysis?

Industry analysis refers to the analysis of industry’s environment that guides the industry to grow and survive in a competitive environment and gain a competitive edge in the industry as it predicts the future and changes in the market and analyze the threats and opportunities in the way ahead and making decisions and planning according to it.

It is one of the primary tasks of equity research analysts. In some companies, there’re dedicated teams who primarily do industry analyses and write reports on the same. In simple terms, industry analysis reveals the dynamics of the industry to the stakeholders. So it’s an essential part of creating a competitive advantage for a company in the competitive market.

Why are you doing an industry analysis?

Businesses can’t run in a vacuum. We need data that can help us assess the future of the business. Industry analysis is a way to go about collecting and analyzing the data that can help a business assess its future and formulate a strategic plan to grow the business.

Here’re the key factors that we will be able to understand if we do industry analysis –

• Retaining valuable, existing customers – Customers generate revenue for a business. So in a business, it’s of great significance that we retain existing customers who generate 80% of revenue. Industry analysis will help a business understand the competitors and what they’re offering to their customers. It will help a business-enhancing its value creation and providing more value to existing customers.

• Attracting new customers – If a business can understand the above picture and can analyze the data of how many customers they’re leaving for their competitors to serve, they will be able to formulate a new strategy for attracting more customers who may get interested in their value proposition. Industry analysis is not only about the competitors, but also about the customers they serve.

• Ensuring the sustainability of business – Business can’t perpetuate if their value proposition isn’t strong enough. The business needs to know the competitors, what their competitors are doing, what new products competitors are launching, how to create threats for new entrants who may grasp a portion of the business and how to keep the business sustainable for the next 10, 20, 30 years. Industry analysis will help a business assess all of it and will provide business a framework to work upon. Of course, the industry analysis can’t be accurate, but the business will get valuable information to work on.

• Aligning organizational strategy in culture – Industry analysis will provide a framework that will help you strategize your vision for the future. But without making it inherent within the organizational culture you won’t be able to create the competitive advantage that you need to create to succeed in the long run. Indirectly, industry analysis will help a business align its strategy with the organizational culture.

• Attracting new and retaining existing star performers – If you don’t have a great team, you can’t achieve your dream. Industry analysis will help you understand what skills you should look for in your existing and new recruits so that they can help you grow the business. When every 7 years technology has been changing, it’s critical to hire someone who has the required skills industry supports. Without which you’ll not be able to generate a competitive advantage for your organization.

• Understanding the business and creating a big-picture – Industry analysis helps create a helicopter view for the business. Often times, the business makes a mistake of envisioning a picture that’s not aligned with the industry requirement. Industry analysis helps a business to see the big picture and create pixel view (goals and short terms objectives) to work upon.

Without doing industry analysis, a business may run; but the business won’t be able to understand whether it’s the right direction or not.

How to do an industry analysis?

There’re many frameworks we can use to do industry analysis. But what’s more important is to follow a few steps and get to the point where one can use the frameworks to assess the correct picture of the industry.

First, we will have a look at the steps you can follow and then we will talk about the frameworks economists/equity research analysts can use to analyze the market/ industry.

1. Review the available information: If you dive in, you would be able to find many available reports, white papers, analysis, research reports, and presentations. If you don’t have any idea about the industry you’re trying to analyze, first use these materials to get to know the industry. Read everything you need to know and identify the key factors that can help you write the report after analysis. These reports and information can’t fully help you but they will give you some idea about what to look for while analyzing the industry.

2. Get an idea about the right industry: It may happen that you’re searching for the real estate industry. But real estate is a huge industry and there’re many sub-industries like household complexes, commercial properties, hotels, amusement industry, etc. You need to get an idea about the right industry. If there’s no relevance in the industry you’re searching for, you’ll lose focus and the analysis will not be able to pinpoint accurate data.

3. Are you able to forecast future demand and supply? This is the key thing in any industry. Why? Because everything depends on the demand and supply of the industry. Here’s what you should do. Make a list of the competitors in the industry. Find out the financial health of each competitor. Take account of the growth rate and the products they’re selling in the last 5 years. Then do a comparative analysis with your business. You’ll get an idea of what to work upon and what to leave alone. In simple terms, you’ll be able to recognize the key factors that are responsible for future demand and supply in the market.

4. Competition: This is the most important thing to consider. There’re three common frameworks a business can use to understand the micro and macro factors of a business.

 

Industry Analysis of Automobile Sector, IT Services Sector and Steel Sector

Let us apply some of the learning from the above step to industry analysis of the Automobile Sector, IT Services Sector and Steel Sector respectively.

Industry Parameters	Automobile Sector	IT Services	Steel Sector
Demand: Why would there be a continued demand for the product/service	The income of Individuals affect the sale of Cars Industrial activities affect sales of Commercial vehicle Easy Loans and interest rate regime should help	IT Services thrive by providing Low-cost proposition for the same services Labor/skill shortage in the long run	Demand supply mismatch due to excess supply can put pressure on margin Infrastructure growth / Housing Construction demand especially in higher urbanization areas Performance of downstream companies such as Cars, White goods, etc
Key supply drivers	Steel prices Metal prices such as Aluminium, rubber, etc	Educated manpower at reasonable cost Continuous skill enhancement of employees	Price of iron ore
Degree/nature of change	Moderate. The smaller life cycle of a product. Changes in technology	A high degree of change – due to technology changes / high competition	Low. Strongly dependent on the business cycle and demand-supply gaps
Predictability of business	High. Due to car buying by consumer and Commercial vehicle for Goods movement	Predictability is low due to fast technology changes. The clock speed for the Business is high. Changes in the environment every 2-3 years	Medium
Cyclicality?	Moderate for cars. High for commercial vehicle	Not yet as the model is moving to offshore	High
Ability to increase price ahead of inflation (Pricing power)	Poor	Very moderate. More demand-supply gap driven. Commoditization at the lower end and moving up the value chain	Only if there is supply shortfall, else poor
Some sort of monopoly or Oligopoly	Low in India. High competitive intensity especially in mid-segment	None at all – close to perfect competition.	None
Does the company have a recurring revenue stream	Yes. High-value purchase with long cycle	Yes	Yes.
Does the business have franchise/brands or is it a commodity	Franchise/branding is strong in India	Weak to the moderate brand. No franchise. Lock in due to Switching costs	Commodity with poor brand/franchise value
Does the industry enjoy high growth rates? For how long	Commercial vehicles are cyclical. Cars / personal vehicle have a much steadier trend	High growth currently due to model shifts. Looks likely for the next few years	Highly cyclical industry

 

Porters Five Force Model to Industry Analysis

We looked at the above guidelines, however,  the most important and relevant framework is given by Porter in his Five Forces Model.

source: mindtools.com

This model is the best in ascertaining the competitive scenario of the industry and it’s being used extensively by businesses all over the world. There’re five forces that are taken into consideration for industry analysis

• The threat of new entrants: It’s important for a business and industry to know the factors responsible for new businesses to come into the industry. Economies of scales, time and cost of entering the industry, technologies, barriers to entry, etc. need to be taken into account.

• Buyer power: To understand buyer power, the businesses need to know the numbers of customers prevalent in the market, price sensitivity, ability to substitute, cost of changing, etc.

• The threat of substitution: It’s important to know whether there’s any substitute for the products/services available in the market or not.

• Supplier power: This is a simple analysis of suppliers and the uniqueness of their supplies.

• Competitive Rivalry: These are competitors’ analyses. The factors that need to be understood are a number of competitors, differences in quality, customer loyalty, switching costs, etc.

Use this framework to get a good idea about your competition and other key-factors. It would be best if you can use the above 3 frameworks. You’ll have some great inputs about your industry.

5. Recent Trends and developments: As an analyst, you also need to consider the recent changes in the industry. The micro and macro factors both you need to consider while looking for the new changes. These are the little details that can affect the effectiveness of your analyses. So pay a closer look and pinpoint any new changes however small.

6. Understanding the components of the industry: Not every industry consists of similar factors. Thus it’s important to understand the basic components of the industry. If you’re analyzing the real estate industry, it’s important for you to know the square feet rate for each sub-industry.

These are the things you need to consider if you would like to do industry analysis. As an equity research analyst, if you know how to do industry analysis, you’ll be able to create an edge over others and attract lucrative jobs that require these skills.

Porter’s 5 forces on Automobile Sector, IT Services, and Steel Sector

Let us now apply Porter’s 5 forces model for industry analysis on the Automobile, IT Services and Steel Sector. Please note that the analysis is done from India’s Point of view.

Porter’s 5 forces for industry attractiveness	Automobile Sector	IT Services	Steel Sector
Industry attractiveness summary and reasons for low high returns	The industry has good returns as demand has been high, early entrants who developed scale have been able to create barriers and keep returns high. Key variables are entry barriers and rivalry. In the event of a drop in demand, the rivalry could increase the resulting drop in returns	Extremely attractive returns due to high demand and high value add for the customer. Entry barrier has now become high as the larger firms have become big. The rivalry is not destroyed due to high growth. Buyer power is not very high and supplier power / The substitute does not impact. Very returns in the industry currently as it is a sunrise industry	Cyclical and low returns during downturns. A fragmented industry that is slowly consolidating. As a result of scale, entry barriers are going up. Returns also drop due to intense rivalry and high competition. Low impact on buyer power and substitutes. Suppliers have moderate influence due to coal and ore pricing
ENTRY BARRIER – No. 1 Factor deciding industry profitability	Entry barriers are high and hence first movers have a higher advantage.	Barriers due to economies at low-end work Barriers due to vertical based competency Companies can enter although the industry is now consolidating	Entry barriers are not too high until consolidation happens. Companies can supply to Global markets
Asset specificity	High. An automobile plan is capital intensive	Low	High
Economies of Scale	High for manufacturing/ Purchasing/ Marketing etc	Economies important at the low end – especially for outsourcing	High
Proprietary Product difference	Moderate. New technology is being added. But it gets copied quickly	None – IPR / knowledge base for vertical is the only differentiator	None
Brand Identity	High	Specific for verticals	None
Switching cost	Moderate. New buyers have a tendency to stick to their brand.	High	None
Capital Requirement	High for the industry	Low	High
Distribution strength	Critical	NA	Medium
Cost Advantage	High	High – but applicable to all	Low – only for some
Government Policy	Moderate	NA	Low
Expected Retaliation	High	High	High
Production scale	High	NA	High
The anticipated payoff for the new entrant	Moderate	High	Low
Precommitment contracts	No	High	Low
Learning curve barriers	High	High	Moderate
Network effect advantages of incumbents	Moderate	None	None
No. of competitors  – Monopoly / oligopoly or intense competition (concentration ratio )	Low concentration ratio for all segments except entry-level.	Intense competition	High.  Too many players such as mini mills, Integrated steel plant, etc
RIVALRY DETERMINANT	The rivalry is high due to high fixed investments. Muted currently due to good demand growth	Medium rivalry. However, firms in the industry due to low exit barriers do not engage in destructive competition. Expected to increase with growth in the US companies in India	High competitive intensity causes poor profitability of the industry. Fragmented industry – now consolidating
Industry growth	High	High	Medium. Dependent on the demand-supply gap
Fixed cost / value-added	High	Low	High
Intermittent overcapacity	Moderate	Low	High
Product difference	Moderate	Low	Low
Informational complexity	Moderate	Medium to Low	Low
Exit Barrier	High	Low	High
Demand variability	High	Low	High
SUPPLIER POWER	Low	None – Input is manpower	Medium – Ore suppliers / Coal / Lime is controlled by the government or few suppliers and can have an impact on the prices
Differentiation of input	Low	None	Low
Switching cost of supplier	Moderate	None	Low
Presence of substitute	High	None	None. Cost escalation of RM has an impact on Margins
Supplier Concentration	Low	None	Medium – For coal and fuel and iron ore
Imp of volume to supplier	High	None	Moderate
Cost relative to the total purchase	High	None	High
The threat of forwarding v/s Backward integration	Low	None	None
BUYER POWER	Low	% Sales contributed by Top 5 account. High for smaller companies	Low
Buyer conc. v/s firm concentration	Low	Varies for companies. Tier II companies have higher Buyer conc	Low
Buyer volume	Low	High for Tier II companies	Low
Buyer switching cost	Low	High for buyers	Low
Buyer information	High	High	Medium
Ability to integrate backward	None	Low. The reverse is happening	None
Substitute product	Public transport – not really a key factor	Substitution is feasible with another vendor. However, switching costs are high. Hence repeat business is a key variable	high. Product may not be substituted but brands can be easy. Also, substitution by alternate material such plastics is driving the long term trend line downwards
Price sensitivity		High for low-end work	High
Price / Total Purchase		High	High
Product difference		Low	Low
Switching cost		Medium	None
Buyer propensity to Substitute		High	High
Intangible assets	Brands are critical. Pricing strength is moderate due to brands. Depends more on the product quality/review R&D spends high on cost-cutting / new technology. More from the production advantage standpoint than from a consumer standpoint Distribution and after-sales service infrastructure is critical	Customer relationships important Knowledge management is important. Branding important more from a recruitment point of view. Branding becoming critical for the top vendors Research for creating IP for high end is gaining importance	Brands also do not give pricing power Process innovations/ improvements for cost reductions

How to write a report on Industry Analysis?

The simple way to write a report is to follow the steps you used in the previous section. Here’s how you can write a report on Industry Analysis effectively –

• Write an overview of the whole industry analysis – The purpose of writing the overview is to give a big picture to the readers (CEO/ top management professionals) quickly about your analysis. It’s important that you summarize important points and also your findings in a brief manner.

• Analytical Presentation: This is the most important part of the report. You need to use all your findings and analytical judgments to make this part effective. Use graphs, charts, images, pointers to emphasize your points. Talk about the micro and macro factors of the business. Also include the competitors, their products and services, customer satisfaction, how much value the competitors are providing and what they’re missing out on, etc. Analyze the controllable and uncontrollable factors and also mention if there’re any recent developments in the industry.

• Forecast: In the next section, give your suggestions and forecast the possible future of the industry. Also, mention the long term and short term valuation of the industry and what could be the challenging issues in the future.

• Finally: Write a summary of the entire report in one-two paragraphs. Include the key-factors of the report and your suggestions in brief.

While writing the report, it’s better if you use lucid language. If you would like to use any jargon, mention the meaning so that the readers don’t get stuck in between.

This is a comprehensive guide of how you can conduct an industry analysis. If you learn these skills along with preparing yourself for equity research analysts profile (conducting industry analysis plus writing the report), you’ll certainly have better prospects than your peers.

The best way to learn is to do it in action. Just select an industry and follow the above steps to do the analysis in reality and write a report on the same. If you happen to sit for an interview for an organization that is of the same industry, present the report along with your resume. You’ll see how much value addition it would be for you during the interview and how it will help you uplift your candidature in front of the interviewers.

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