Life Cycle

Like humans, industries also have life cycles. It is important for an investor to understand the lifecycle of the company he invests in and the implications.

Introduction phase: A new industry is born. Some survive and continue on to the growth phase. Others are inherently economically unviable and die out when they do not receive any external aid.

Growth phase: A new industry succeeded in surviving and is able to develop demand for its products. Growing demand for its products causes the industry to grow rapidly in size. It is important to note that a growing industry may not leading to growing profits for every company in the industry. This may seem counterintuitive, but a growing industry may lead to companies in the industry growing production capacity even faster.  If a company is unable to retain consumer loyalty with its brand, it may not have much pricing power, and the eventual oversupply of the product may destroy its profit margins.

Maturity phase: The demand for the industry’s product slows. All the low-hanging fruit that was easy for picking has been picked. The industry matures and grows at around or slightly above the growth rate of the GDP.

Stability/Decline phase: Some industries become staples, like cereal or Coca-Cola and have stable earnings with some growth. They are usually considered safe, defensive investments and pay out a large amount of their income in dividends. Others head into a steady decline due to technology (for example, the horse buggy was replaced by automobiles and newspapers’ circulation are in a steady decline)

It is useful to note that a company may experience these four cycles as well.  It is also important to note that a company may not be totally affected by the vicissitudes of the industry if it has an exceptionally strong competitive advantage.  Again, it must be emphasized that just because a company is in the growth industry, its profits may not be growing, or growing as rapidly as projected. (This seemingly paradoxical statement is discussed in “One up on Wall St” by Peter Lynch).

However, in most cases, the fundamentals of an industry have a very large influence on a company in the industry. As Warren Buffett would say, “A good businessman cannot change the fundamentals of a bad industry.”

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