Dimension 1 - Industry, Markets and Competitors Flashcards
What is inelastic and elastic demand?
Inelastic - when price is of little concern to the customer; change in price has little effect on demand of product
Elastic - Change in price results in a proportionate change in the quantity of the product or service demanded
What are the product life cycles?
1) Emerging Stage
2) Growth Stage
3) Mature Stage
4) Declining Stage
Emerging Stages Characteristics
Summary: Acceptability is uncertain, cash flow is probably not sufficient to cover start-up costs and fixed costs of production
Strengths:
- High sales due to product introduction and unique positioning
- Little competition
- High prices and gross margins (as result of little competition)
- Registration of patents and intellectual property rights to create barriers of entry to competitors
- Develop brand loyalty
Risks:
- Failure rate of new products high
- Production capacity too high or too low
- Low net margins bc of high R&D and marketing
- Mismatch of cash flows
- Initial product quality may be poor
- Winning marketing strategy not apparent
Growth Stage Characteristics
Summary: Rapid sales growth, strong profitabililty, product gains acceptance ,demand grows, competitors enter the market
Strengths
- Increasing demand and high selling prices
- Product quality improved
- Higher net margins vs. competitors still in emerging stage
- Solidify brandy loyalty
- Develop compatible products with high margins
Risks:
- Increase competition
- Optimistic sales and profit projections may not materialize bc of new competitors
- Production over-capacity due to incr. competition
- High marketing costs
- Additional requirements on external funding sources
- Negative cash flow: “Sales are up,
profits are up, why am I broke?”
Mature Stage Characteristics
Summary: Competitors have entered the market, lower gross profit margins but stronger CF due to stable demand
Strengths:
- Price stability
- Superior quality
- Max brand loyalty
- Product enhancements to extend product life
Risks:
- Demand levels off and slow decline
- Low cost producers enter market
- Competition is maximized, elastic forcing to lower prices
- Product becomes more price-sensitive
- Production over-capacity
Declining Stage Characteristics
Summary: Sales drop as demand falls, may still be suitable borrowers for seasonal and short term
Strengths:
- Low advertising costs
- Weak competitors eliminated
- Remaining companies can compete in a smaller market
Risks:
- Lower sales
- Cost control important
- Substantial over-capacity
- Lowering margins until production capacity is reduced
- Product quality deteriorates due to cost cutting
- Unable to find skilled labor force
What are Industry Risks?
Macroencomic Issues Cyclicality Seasonality Technology Risks Life Cycle Stage International Considerations Business Process and Product Risks
Types of Macroecomic Issues
Regulations Environmental Changing Interest Rates Labor Political and Public Opinion Weather Currency Fluctuations
Cyclicality
Refers to the extent to which an industry is affected by the expansion and contraction of economic cycles.
Evaluating Cyclicality Risk
- How vulnerable the company and its industry are to a business cycle
- How have the company and industry withstood the impact of previous business cycles?
- Whether the financial condition of a company is strong enough to withstand the possible negative effects of a downturn in the business cycle
- The quality of the business’s plan for dealing with economic cyclicality and its ability to insulate itself from extreme economic swings
Stages of a Business Cycle
1) Early Expansion
2) Late Expansion
3) Early Contraction
4) Late Contraction
Early Expansion (recovery)
Characteristics:
1) Low Interest Rates
2) Consumer and business credit are plentiful
3) Consumers have good levels of disposable income because of secure jobs, increasing wages, and available credit
Effects on Business
1) Sales and profits usually increase
2) Companies often expand production facilities, increase inventories, add employees, start new business lines, and/or introduce new products
Late Expansion (boom)
Characteristics:
1) Consumer and business spending and demand for credit increase, pushing up interest rates and prices
2) Capacity utilization climbs and prices stabilize for goods and services
Effects on Business
1) Sales stabilize or begin to decline
Early Contraction (slowdown)
Characteristics:
1) Optimism about the future decreases as interest rates and prices remain high
Effects on Business
1) Fewer new products are developed or additions to capacity are begun and less production capacity is brought on line
2) Less credit is demanded as companies seek to reduce reliance on debt and increase liquidity
Seasonality
Without the influences of natural disasters/weather, the effects of seasonality on a business may be reasonably predictable, and provide your customers with profit making opportunities.
What makes a business seasonal?
Weather
Calendar-dicated seasons
Religious, cultural, natural holidays
Other industries business cycles ie. back to school, tax season
Effects of Seasonality on Cash Requirements
1) By temporarily lengthening the cash cycle
2) By increasing daily average sales or cost of sales
Types of seasonality
Seasonal sales
Seasonal cash:
2 Types of seasonal cash
1) Disbursements that lengthen the cash cycle
2) Receipts that lengthen the cash cycle. This is the least common type of seasonality.
Seasonal Sales Characteristics
1) Increase average daily sales and cost of sales. This is the most common type of seasonality.
- Usually preceded by increase in inventory and followed by a period of high receivables. The company’s need for additional cash begins with inventory buildup and continues until receivables have been collected and have dropped back to lower permanent levels.
- If receivables or inventory grow faster than sales (such as during inventory buildup), the cash cycle can lengthen and the demand for cash be more severe than expected.
- Higher daily sales cause a spike in cash needs for funding higher levels of working capital assets even if the length of the cash cycle does not change.
Seasonal Cash Characteristics
Disbursements that lengthen the cash cycle.
• Accounts payable may have extended payment terms including datings, which result in a significant source of funding.
• If receivables or inventory grow faster than sales (such as during inventory buildup), the cash cycle can lengthen and the demand for cash be more severe than expected.
• Higher daily sales cause a spike in cash needs for funding higher levels of working capital assets even if the length of the cash cycle does not change.
Receipts that lengthen the cash cycle. This is the least common type of seasonality.
• Suppliers to government agencies may not be paid until the agency receives funding allocations.
• Suppliers to educational institutions are often not paid until after the students pay tuition.
• Suppliers to farmers may not be paid until crops are harvested and sold.
Tools for identifying seasonal patterns and cash flow effects
1) Intereim F/S
2) Cash Budgets
International Considerations
If your customer is a supplier to, or purchaser from, the international community, economic risk issues become compounded by political and cultural factors.
Given a stable political environment, probably the most common risk is that of currency fluctuations.
Significant industry factors that introduce business-level risks include:
Distribution Products and Services Production Technology Risks Outsourcing Risks Other Risks
Life Cycle Financial Issues
- Emerging – start-up losses, fixed asset acquisition
- Growth – rapid growth in receivables and
inventory - Maturity – cash flow excellent due to stable asset
base and good profitability - Decline – shrinking asset base creates excess
cash flow, despite shrinking profitability
Late Contraction (recession)
Characteristics:
- Economy slows down
- Unemployment increases
- Interest rates gradually fall
Effects on Business:
- As demands for goods and services shrink,businesses begin to see new opportunities for growth.
- Falling prices and increased availability of credit set the stage for a new expansion stage.
