Question

What are the five stages of industry life cycles? Choose five industries that you believe represent each part of the cycle, and explain why each industry may fall under each respective stage. How will investor expectations related to capital needs, dividend payments, and returns change under each stage?

Answer 1

Industry Life Cycle

An industry life cycle depicts the various stages where businesses operate, progress, prospect and slump within an industry. An industry life cycle typically consists of five stages — startup, growth, shakeout, maturity and decline. These stages can last for different amounts of time, some can be months or years.

Startup Stage

At the startup stage, customer demand is limited due to unfamiliarity with the new product’s features and performance. Distribution channels are still underdeveloped, so there are very few product supply and promotional activities. There are also lack of complementary products which add value to the customers, limiting the profitability of the new product.

Companies at the startup stage are likely to generate zero or very low revenue and experience negative cash flows and profits due to large amount of capital initially invested in technology, equipment and other fixed costs.

Like, for example, in 1980’s, personal computers were a part of very few houses, while on the other hand, products like fans or even refrigerators were part of almost every household.

So naturally, the growth rate of products like refrigerators will be much less.

Growth Stage

As the product slowly attracts attention from a bigger market segment, the industry moves on to the growth stage where profitability starts to rise. Improvement in product features leads to easiness to use, thus increasing value to customers. Complementary products also start to become available in the market so people have greater benefits purchasing the product and its complements. As demand increases, product price goes down which further increase customer demand.

At the growth stage, revenue continues to rise and companies start generating positive cash flows and profits as product revenue and costs break-even.

As the early adopters begin influencing the early majority, sales and profits sore. The competition has also been watching from the new product's inception. Unfortunately for the original firm, the competition has also noticed the new product's success. Although they cannot be the first, the competition races to offer their own products and gain a share of a growing market. Chrysler's minivan did not maintain its monopoly for long; soon, the other major automobile manufacturers offered models to compete with Chrysler. Although total sales and profits continue to grow throughout the growth stage, they are divided among many manufacturers.

Shakeout Stage

Shakeout usually refers to the consolidation of an industry. Some businesses are naturally eliminated because they are unable to grow along with the industry or are still generating negative cash flows. Some companies merged with competitors or are acquired by those which were able to obtain bigger market shares at the growth stage.

At the shakeout stage, growth of revenue, cash flows and profit start slowing down as industry approaches maturity.

Maturity Stage

At the maturity stage, majority of the companies in the industry are well-established and the industry reaches it saturation point. These companies collectively attempt to moderate the intensity of industry competition to protect themselves and maintain profitability by adopting strategies to deter entry of new competitors into the industry. They also develop strategies to become a dominant player and reduce rivalry.

At this stage, companies realize maximum revenue, profits and cash flows because customer demand is fairly high and consistent. Products become more common and popular among the general public, and the prices are fairly reasonable compared to new products.

Manufacturers begin to drop out as they see profits turn to losses. Though there is still competition in the computer industry, for example, companies such as Dell and Apple have emerged as the leaders in the market. During the later part of the maturity stage, even sales begin to dip, putting more pressure on the remaining manufacturers

Decline Stage

Decline stage is the last stage of an industry life cycle. The intensity of competition in a declining industry depends on several factors: sped of decline, height of exit barriers and level of fixed costs. To deal with decline, some companies might choose to focus on their most profitable product lines or services in order to maximize profits and stay in the industry. Some larger companies will attempt to acquire smaller or failing competitors to become the dominant player. For those who are facing huge losses and do not believe there are opportunities to survive, divestment will be their optimal choice.

There was a boom in social media during the early 2000s due to the success of Myspace, a social networking site that surpassed Google as the most visited place on the Internet in 2006. Sites like Orkut (a Google venture) and Bebo competed to gain users in a crowded landscape. Facebook, which had started in 2004, was also fast gaining traction among universities and was considered the second most popular social media site. There were signs of consolidation when Myspace was acquired by Rupert Murdoch's Newscorp. Ltd for $580 million in 2005.

But that valuation turned out to be inflated after Facebook overtook MySpace in rankings. MySpace eventually petered into insignificance after Facebook became a social media behemoth. With the exception of a few, like Twitter, other social media sites also fell by the wayside. The social media sites that survived made a thumping debut on the stock market. Their valuations were considered high in comparison to their revenues, mainly because investors expected significant growth in the future as social media became popular throughout the world.

As of May 2019, however, Facebook's valuation has declined and the company has warned of plateauing growth figures in the future. Snap Inc. another social media company, is in a similar situation. Both companies have expanded the scope of their operations to include other products, such as cameras and drones, in their portfolio.