Industry and Competitive Analysis

It is essential for analysts to understand the industry context for a company’s financial performance and its evaluation. For example, is a company’s revenue growth driven by a macroeconomic or industry-wide factor (such as an economic expansion) or a company-specific factor (such as increasing market share)? The answer has important implications for forecasting and valuation.

In this learning module, we discuss how an industry is defined and address the challenges associated with grouping companies that operate in multiple industries. Next, we introduce methods to survey an industry in terms of size, profitability, and market share trends. Further analysis includes frameworks to interpret a competitive environment using Porter’s Five Forces and external trends using PESTLE analysis. Finally, we combine these approaches to understand a company’s competitive strategy and its position relative to its industry peers.

• Analysts use industry and competitive analysis to understand an industry’s structural factors, relative competitive strengths and weaknesses, and their contribution to a company’s economic profits.
• An analyst’s first step in an industry and competitive analysis is to define the boundaries of the industry in question and its constituents. Industries are commonly defined as companies that sell similar products or services. However, this definition can be challenging to apply in practice, as companies can sell diverse products or services across many industries and product similarity is subjective.
• To define an industry, analysts can use third-party classification systems such as GICS but need to be aware of the methodologies and limitations of these systems. 
• After defining the industry, the analyst surveys the industry by estimating its total annual sales, historical growth rate, and profitability metrics and then determining market shares and trends of key players.
• Industry metrics can be compared against broader economic trends during recessions or expansions to determine the industry’s level of maturity, sensitivity to business cycles, and competitive rivalry.
• Analysts use Porter’s Five Forces to understand an industry’s structure, as defined by the level of competitive rivalry, through an assessment of the threat of new entrants, the threat of substitutes, customer bargaining power, and the bargaining power of suppliers.
• To supplement this research, analysts use PESTLE analysis to understand the external influences on and potential changes to an industry’s growth rate and market share dynamics.
• To evaluate a company’s competitive strategy, an analyst should determine whether the strategy creates a defense against industry forces and is aligned with the external forces acting on the industry, and whether the company has the resources and capabilities necessary to execute it.