industry analysis

When studying an industry, an entrepreneur must answer three questions be- fore pursuing the idea of starting a firm. First, is the industry accessible—in other words, is it a realistic place for a new venture to enter? Second, does the industry contain markets that are ripe for innovation or are underserved? Third, are there positions in the industry that will avoid some of the negative attributes of the industry as a whole? It is useful for a new venture to think about its posi– tion at both the company level and the product or service level. At the company level, a firm’s position determines how the company is situated relative to its competitors, as discussed in Chapter 4. For example, Fresh Healthy Vending has positioned itself as a vending machine provider that specializes in healthy alternatives to traditional vending machine snack foods and beverages. The com- pany’s refrigerated machines offer carrots, yogurt, smoothies, granola bars, and beverages such as milk, juice, and teas. This is a much different position than the vending machine providers that offer the standard fare such as chips, pret- zels, salted peanuts, candy bars, sports drinks, and sodas.

The importance of knowing the competitive landscape, which is what an in- dustry is, may have been first recognized in the fourth century bc by Sun Tzu, a Chinese philosopher. Reputedly he wrote The Art of War to help generals prepare for battle. However, the ideas in the book are still used today to help managers prepare their firms for the competitive wars of the marketplace. The following quote from Sun Tzu’s work points out the importance of industry analysis:

We are not fit to lead an army on the march unless we are familiar with the face of the country—its pitfalls and precipices, its marshes and swamps.1

These words serve as a reminder to entrepreneurs that regardless of how ea- ger they are to start a business, they are not adequately prepared until they are “familiar with the face of the country”—that is, until they understand the industry or industries they plan to enter and in which they intend to compete.

It’s also important to know that some industries are simply more attrac- tive than others in terms of their annual growth rate and other factors. For example, according to IBISWorld the industry for e-book publishing is expected to grow at an annual rate of 7.5 percent over the next five years. For the same period, the industry for traditional book publishing is expected to grow at an annual rate of 0.7 percent. What this means is that the conditions for grow- ing a company are significantly more favorable in the e-book industry than in the traditional book publishing industry.2 These types of differences exist for comparisons across other types of industries. The differences can be mitigated some by firm-level factors, including a company’s products, culture, reputa- tion, and other resources.3 Still, in various studies researchers have found that from 8 to 30 percent of the variation in firm profitability is directly attributable to the industry in which a firm competes.4 As a result, the overall attractive- ness of an industry should be part of the equation when an entrepreneur decides whether to pursue a particular opportunity. Studying industry trends and using the five forces model are two techniques entrepreneurs have avail- able for assessing industry attractiveness.

1. Studying industry trends

The first technique that an entrepreneur has available to discern the attractive- ness of an industry is to study industry trends. Environmental and business trends are the two most important trends for entrepreneurs to evaluate.

Environmental Trends As discussed in Chapter 2, environmental trends are very important. The strength of an industry often surges or wanes not so much because of the management skills of those leading firms in a particular industry, but because environmental trends shift in favor or against the prod- ucts or services sold by firms in the industry.

Economic trends, social trends, technological advances, and political and regulatory changes are the most important environmental trends for entre- preneurs to study. For example, companies in industries selling products to seniors, such as the eyeglasses industry and the hearing aid industry, benefit from the social trend of the aging of the population. In contrast, industries selling food products that are high in sugar, such as the candy industry and the sugared soft-drink industry, suffer as the result of a renewed emphasis on health and fitness. Sometimes there are multiple environmental changes at work that set the stage for an industry’s future. This point is illustrated in the following statement from IBISWorld’s assessment of the future of the motor- cycle dealership and repair industry. After first reporting that motorcycle sales are anticipated to increase at an annualized rate of 2.3 percent between 2014 and 2018 to reach a sales volume of $25.2 billion, the report goes on to say:

With more money in their pockets, consumers will head to motorcycle lots again; with favorable consumer sentiment about the future of the economy, consumers will resume purchasing industry products. Furthermore, the tight lending stan- dards of the past are projected to dissipate and more financing will be available for consumers to use when purchasing a motorcycle. High fuel prices will also feed into industry demand as some consumers switch from cars to motorcycles.5

This short assessment about sales in the motorcycle industry illustrates the degree to which environmental trends affect an industry’s prospects. Note that nothing is said about improvements in the management of motorcycle dealer- ships or innovation in the motorcycle industry. The somewhat positive assess- ment of the motorcycle industry’s future is tied to an improved U.S. economy, a loosening of tight credit standards, and high fuel prices. High fuel prices work to the advantage of the motorcycle industry because motorcycles use less fuel than cars. Similar forces are at work in all industries.

Business Trends Other trends affect industries that aren’t environmental trends per se but are important to mention. For example, the firms in some in- dustries benefit from an increasing ability to outsource manufacturing or service functions to lower-cost foreign labor markets, while firms in other industries don’t share this advantage. In a similar fashion, the firms in some industries are able to move customer procurement and service functions online, at consider- able cost savings, while the firms in other industries aren’t able to capture this advantage. Trends such as these favor some industries over others.

It’s important that start-ups stay on top of both environmental and business trends in their industries. One way to do this is via participation in industry trade associations, trade shows, and trade journals, as illustrated in the “Partnering for Success” feature.

Source: Barringer Bruce R, Ireland R Duane (2015), Entrepreneurship: successfully launching new ventures, Pearson; 5th edition.