Week 1 assignment

Chapter 5 Industry Analysis

Introduction

An industry is a group of firms producing a similar product or service, such as airplanes, smartphones, fitness club memberships, or online education. Industries vary along many dimensions, including size, growth rate, structure, financial characteristics, and overall attractiveness. The trends affecting an industry also matter. For example, as the U.S. population ages, the growth of the fitness center industry is likely to depend increasingly on its ability to attract and retain people 50 years old and older. Fitness centers that are on top of this trend and adjust accordingly are likely to outperform those that aren’t.

This chapter introduces and describes the industry analysis portion of the business plan. It’s important that this section focus strictly on a firm’s industry rather than its industry and its target market simultaneously. A firm’s target market is the limited portion of an industry that it goes after or tries to appeal to at a certain point in time. Most firms do not try to service their entire industry. Instead, they focus on serving a specialized portion of the market well. Prime Adult Fitness’s target market within the fitness industry are people 50 years old and older.

Separating the analysis of a firm’s industry and its target market is important because it’s premature for a new firm to select, or even talk about, a specific target market until an understanding of the broader industry is obtained. For example, if you were interested in starting a company to produce a new type of pesticide for orange trees, your target market would be orange growers. But before you make the decision to pursue that market, you should understand the pesticide industry in general. Is the industry large or small? Is it growing or shrinking? Is it dominated by large firms or small firms? Are firms in the industry making or losing money? What impact is organic farming or new environmental regulations having on pesticide sales? The answers to these and similar questions will determine whether the pesticide industry in general is an attractive industry to enter, and which segments within the industry offer the most promise. Your analysis will also give you a read on whether starting a firm to target orange growers is a good idea or whether other segments within the pesticide industry have greater potential.

The industry analysis should appear early in a business plan because it logically precedes the analysis of a firm’s target market and marketing strategy. It also helps set up and support the remainder of the plan. The analysis normally includes, for example, an indication of the average growth in sales for the firms in an industry. This information helps a firm construct its own financial forecasts and justify its numbers. Similarly, the other major portions of a firm’s plan, such as product selection, target market, and operations plan, are guided by the industry’s characteristics and trends. For example, the increase in the number of home care businesses is tied directly to factors and trends in the broader health care market. Home care providers service patients who need periodic nursing care or treatments and can (and prefer) to receive this support in their homes rather than more expensive hospitals or skilled nursing facilities. The factors and trends spurring growth in the home care industry include the following: 1

· The aging of the population, which is steadily increasing the number of people who need home care services

· The unfortunate prevalence of chronic disease, such as Alzheimer’s, cancer, and diabetes, which in many cases requires consistent treatments

· Growing physician acceptance of home care as an alternative to placing patients in hospitals or skilled nursing facilities

· The affordability of home health care in comparison to other options, particularly inpatient hospital care

· Increasing preference among people who need consistent medical care to be treated in their homes rather than in a hospital or other facility

· Changes in family structures, which affects the availability of people to care for family members and subsequently impact the need for outside help

Together, these factors and trends point directly toward opportunities for additional startups to enter the home health care industry and provide differentiated services. For example, Florence Night and Day ( www.florencenightandday.com ), which operates in Oklahoma, is not only a home care provider but also provides related services such as help with activities of daily living, medication reminders, safety monitoring, and transportation to doctor’s appointments.

Now let’s look at the first major section in an industry analysis and why it’s important.

Industry Definition

The first section of the industry analysis should briefly (no more than several sentences long) describe the firm’s industry. The NAICS code should be provided. The older SIC system was replaced by the NAICS in 1997, although SIC codes are still used. The NAICS systems expanded the number of industry sections from 10 to 20 to reflect the broader number of industries that have come into existence. For the majority of business plans, it is sufficient to report the NAICS code. NAICS is a two- through six-digit hierarchical classification code system. Each digit in the code is part of a series of progressively narrower categories. The organization that supervises NAICS codes hosts a powerful search engine at  www.naics.com , to help businesses identify their NAICS code. For example, if you type “fitness centers” into the search box you will find that the NAICS code for the fitness center industry is 713950.

Although it may seem like identifying a company’s industry is a simple task, it’s actually a tough call in many instances. A firm’s industry can be defined narrowly or broadly. For instance, is Prime Adult Fitness in the fitness center industry or the recreation industry? Is JetBlue in the airline industry or the transportation industry? The distinction is important because it defines the scope of a company’s industry analysis and helps identify its overall sphere of concern. The most practical approach for a business plan is to define a company’s industry narrowly and include an analysis of the trends that influence broader industry categories if necessary. In the illustrations in this chapter, Prime Adult Fitness defines itself narrowly as part of the Fitness and Recreational Sports Center Industry (NAICS 713950). In a subsequent part of its industry analysis, it could have provided an analysis of trends of the broader industry—Arts, Entertainment, and Recreation (NAICS 71), but it wasn’t necessary in this instance.

If your firm operates in two or more industries, you should identify all the industries that it participates in, and recognize that you will need to conduct an industry analysis for each of the industries. For example, if a company makes computer software for doctor’s offices, it should state that it operates in the computer software industry and the health care industry and provide an industry analysis for both industries. Some discretion is allowed regarding the weight placed on the individual analyses. In some instances, when a firm operates in more than one industry, it may be appropriate to conduct a full analysis on the primary industry the firm operates in and an abbreviated analysis on the other.

The best Internet resources to assist in helping identify industries, and in completing all sections of the industry analysis, are IBISWorld, Bizminer, and Mintel. All three of these resources are available free through most university library Web sites. They are also highlighted in the Internet Resources Table in  Appendix 2.2  at the end of  Chapter 2 . IBISWorld, in particular, provides a 20- to 40-page analysis for nearly every industry at the five-digit NAICS code level. Each analysis starts with a very distinct description of the respective industry, which may be helpful to you in completing this section of your business plan.

The Prime Adult Fitness industry definition is shown in  Figure 5-1 .

Prime Adult Fitness will compete in the “Fitness and Recreational Sports Centers in the US” industry (NAICS 71394 and SIC 7991). The industry comprises establishments engaged in fitness instruction and facilities management. Well-known companies in the industry include 24 Hour Fitness, Life Time Fitness, and Bally Total Fitness. The industry includes fitness centers and specialized facilities such as tennis centers, swimming pools, ice and roller rinks, and dance studios. The largest segment of the industry, fitness centers, represents 65 percent of industry revenues.

Figure 5-1 Industry Definition (Prime Adult Fitness Business Plan)

Industry Size, Growth Rate, and Sales Projections

This section of the industry analysis briefly discusses the size (in dollars), the growth rate (in percent), and future sales projections for the industry or industries your firms will be entering. It’s important that this section consist of more than just numbers. Unless you are defining a relatively new industry, such as the smartphone app industry, the numbers are fairly easy to find. The key is to make sense of the numbers and present them in a way that builds the credibility of your business plan.

There are four general rules of thumb for completing this section. First, you should always display financial information, such as industry sales and growth rate, in a multiyear format, making it easy to spot trends. Reporting a single number, such as “the women’s clothing store industry generated $42.1 billion in sales in 2012,” 2  is insufficient. In addition to that figure, your reader wants to know whether industrywide sales are growing or declining, and the rate of growth or decline. The best approach is to report three to five years of industrywide sales and industrywide growth rates. Always provide a citation for where your information came from.

The second rule of thumb is to display your information graphically if possible. Guy Kawasaki, the entrepreneur and investor introduced earlier in the book, has said that one of the most effective ways to make a business plan stand out is to include diagrams and graphics. 3  There is a risk in overdoing this, but supplementing the raw data for industrywide sales and sales growth with attractive graphs that visually depict the same data is an ideal opportunity.

The third rule of thumb is to provide information about your industry on a regional or local basis if appropriate. You don’t need to go into detail—an analysis of your target market and competitors is provided in the next section of the plan, covered in  Chapter 6 . Still, in many industries, industrywide sales are not evenly distributed across the United States. In these instances, it might be of interest to your readers to know where the majority of the sales take place and where the largest increase or decrease in sales is expected.

The final rule of thumb is to avoid the temptation to report only positive or flattering information about your industry. This approach not only undermines the credibility of your plan, but it also is not intellectually honest. The numbers that are reported should also be viewed in their proper context. Just because an industry’s numbers aren’t glowing doesn’t mean that good opportunities aren’t available. Many average industries have product or service gaps that provide exciting opportunities for new businesses. If you believe that your company has the potential to outperform the average companies in its industry, state your industry’s numbers fairly and honestly, regardless of how poor they look, and in the “trends” portion of the industry analysis, start laying the groundwork for why a company like yours might outperform the industry. You will have the opportunity in the next section of your business plan to describe your specific target market and the promise it offers.

The industry size, growth rate, and sales projection portion of the Prime Adult Fitness industry analysis is shown in  Figure 5-2 .

Industry Size

An industry’s size is normally displayed in dollars over a three- to five-year period, as shown in the Prime Adult Fitness industry analysis in  Figure 5-2 . Some business plans also report the number of firms in their industry. The ideal size of an industry for a startup is large enough to allow different competitors to serve different segments profitably but small enough that it isn’t attracting the immediate attention of larger potential competitors. There are no good rules of thumb or heuristics for what this size is—it’s strictly a judgment call.

If your industry is broken down into easily identifiable segments, it may be appropriate to report the share (in percentage) of each segment. For example, the $42.1 billion women’s clothing industry is broken down as shown in  Table  5-1 . 4

IBISWorld provides this information on industries that are identified by NAICS codes. It’s a judgment call as to whether this level of detail is appropriate for your plan.

Some plans also report the contribution that a specific industry makes to its larger industry sector. For example, for Prime Adult Fitness, the industry it will participate in, Fitness and Recreational Sports Centers (NAICS 71394), generated 13.7 percent of the sales of its larger industry sector, Arts, Entertainment, and Recreational Services (NAICS 71).

Industry Growth Rate

An industry’s growth rate should be reported on a percentage basis, as shown in the Prime Adult Fitness industry analysis in  Figure 5-2 . You should provide an interpretation of what the numbers mean. There are many ways to do this. Some plans comment on how the industry growth rate compares to similar industries. Note that in its industry analysis, Prime Adult Fitness compares the growth rate of its industry, fitness centers, to three industries that compete for its industry’s dollars—Athletic and Sporting Goods Manufacturing (which makes home fitness equipment), Golf Courses and Country Clubs, and Marinas. The fact that Prime Adult Fitness’s industry is growing faster than these competing industries is a positive sign. Although you don’t want to cherry-pick information that places your industry in a positive light relative to others, you do want your reader to share your enthusiasm for the industry you are about to enter. Prime Adult Fitness’s favorable comparison of its industry to others is an appropriate way of doing that.

Graphs

Source for all information: IBISWorld, May, 2013.

Summary

The industry is in the growth phase of its life cycle. Growth is being driven primarily by an increased awareness of the importance of fitness and exercise. The industry’s biggest challenge is competing for the leisure time of its customers. Time-strapped customers are less likely to frequent a fitness club or other recreational sports centers.

The largest segment of the industry, fitness centers, is growing at a more rapid rate than the industry as a whole. According to IBISWorld (May 2013), fitness center memberships have risen from 46.4 million in 2003 to more than 52.6 million in 2013, a 13 percent increase. Although the industry is not recession proof, it has remained remarkably resilient through economic swings. As a result of both the psychological and health benefits that result from exercise, many people now view membership in a fitness center to be a necessity rather than a discretionary good.

The Fitness and Recreational Sports Centers industry is growing at a faster rate than three industries that compete for its customer’s dollars—Sporting and Athletic Goods Manufacturing (which makes home fitness equipment), Golf Course and Country Clubs, and Marinas.

Figure 5-2 Industry Size, Growth Rate, and Sales Projections (Prime Adult Fitness Business Plan)

Table 5-1 Women’s Clothing Store Industry Breakdown

Segment	Percent of Sales
Tops (including t-shirts, shirts, blouses, and sweaters)	32.0%
Pants, jeans, shorts, and skirts	24.0%
Dresses	18.0%
Coats, jackets, and suits	17.0%
Sports apparel (including swimwear, sweat tops, etc.)	6.0%
Other apparel	3.0%

If you are defining an industry, such as smartphone apps, that isn’t being actively tracked by a reliable source (e.g., IBISWorld), finding good sales data requires creativity and persistence. It normally involves searching for newspaper or magazine articles that report the industry’s sales and sales growth or finding an industry trade association that tracks and reports the numbers. Mintel, one of the databases mentioned earlier, in an appendix to each of its industry analyses, provides the names, phone numbers, and Web site addresses of the major trade associations related to a particular industry. If you define a new industry you could search the industry analyses of related industries that Mintel follows to try to find a trade association that might track smartphone app sales as part of its larger mission. You could then call or e-mail the trade association to ask if it tracks smartphone app sales or to ask where to find the information.

A fuller list of suggestions for how to track down sales and sales–growth data for a newly defined industry, such as the smartphone apps industry, is provided in the Business Plan Insights box.

Industry Sales Projections

This section should report future sales projections for your industry. If you are reporting on an established industry, IBISWorld and similar sources report their predictions. You can quote from these reports, but you should do so sparingly. Most of the readers of your plan are more interested in what you think than in what IBISWorld thinks. As indicated earlier in the book, a business plan not only lays out facts, but it also demonstrates to your reader how you think and interpret data.

Business Plan Insights Finding Industry Sales Data by Knocking On Doors

If you’re defining a new industry, such as smartphone apps, one challenge you’ll encounter is finding good sales data and sales–growth information. In these cases, finding the information becomes somewhat of a scavenger hunt. And like in a scavenger hunt, a willingness to knock on doors and dogged determination make a big difference.

Here are some suggestions of the doors you might metaphorically knock on to get sales data and sales–growth information for the smartphone app industry. Your industry might be much different from the smartphone app industry, but the types of resources included in this list represent a good place to start:

· Type “smartphone app industry” into the Google or Bing search bar to see if the information has already been compiled by a reliable source.

· Try to determine if there is a trade association or an annual trade show for smartphone apps, and contact the relevant organization to ask if industrywide sales data are available. You might narrow your search to see if there are trade shows or conferences that focus on specific types of apps, although the information you glean at these conferences may be more limiting. There may be trade shows based on the platform that the app is hosted on (i.e., iPhone, Android, RIM’s Blackberry) or the type of app (i.e., productivity, games and entertainment, music).

· Search for newspaper and magazine articles on smartphone apps using public search engines such as Find Articles () and MagPortal ( www.magportal.com ) and more powerful search engines such as ProQuest and LexisNexis, which are normally available through a university library Web site.

· Search industry-specific trade magazines. For example, an obvious place to look for articles about smartphone apps is in MacWorld, a magazine dedicated to covering the entire Apple Inc. ecosystem. If you can’t find an article, contact MacWorld, and ask if they have run an article on smartphone apps industry sales.

· Contact a company in the industry to ask for leads on finding industrywide sales data information. Don’t be bashful. [x]cube Labs is a company that offers complete end-to-end services for mobile applications development across all major platforms, including Apple iPhone, RIM’s Blackberry, Google’s Android, as well as Microsoft’s Windows Mobile. The company lists the phone number of its corporate headquarters on its Web site.

One thing you’ll need to be careful about is discerning the credibility of your sources of information. Don’t be afraid, however, to cite personal conversations if the information is credible. For instance, it’s perfectly appropriate to cite a personal conversation with the director of a trade association if you feel reasonably confident the information you’re being provided is credible.

You should include concrete numbers for what you think your industry’s sales and sales growth rate will be for the next one to three years. If you project the numbers yourself, explain how you arrived at your estimates. A sensible approach, which works in most instances, is to simply extrapolate from the historic trend data you have available. In all cases, you should comment on what the predictions mean. If you are predicting a sharper increase in sales than would be expected by looking at historic trends, you should provide a rationale for your prediction. In most instances, you will point to improving industry trends as part of your justification for higher numbers. Briefly mention the key improving trends here, but do not elaborate. The third section of your industry analysis deals exclusively with industry trends.

Industry Characteristics

This section talks about the structure of your industry and lays out its competitive landscape. The four key issues to deal with are industry structure, the nature of the participants in an industry, key ratios, and the industry’s key success factors. Although you could comment on much more, it’s simply impossible to include all the potential topics within the context of a 25- to 35-page business plan. Part of the art of writing a business plan is determining what to include and what to leave out. You will experience the frustration of having to leave out potentially important information as you write this section of your industry analysis.

The industry characteristics portion of the Prime Adult Fitness industry analysis is shown in  Figure 5-3 .

Industry Structure

This topic is particularly important. An industry’s size and its growth rate, regardless of how positive they are, are basically moot points if an industry isn’t structurally attractive for a startup. Industry structure, in the context of a business plan, refers to how concentrated or fragmented the industry is and whether the industry’s competitive landscape is in general attractive or unattractive.

In regard to industry concentration, you should report how concentrated or fragmented your industry is. Concentrated industries are dominated by a few large firms, whereas fragmented industries include a large number of smaller companies. Normally, an industry is concentrated if large capital requirements are necessary to participate, or it has matured and a substantial amount of consolidation has taken place. An industry is typically fragmented if it’s in the emergence stage of its life cycle and/or the cost of entry is relatively low. If you’re launching into a fragmented industry, nothing more typically needs to be said—most startups launch into fragmented markets. If you’re launching into a concentrated market, you’ll need to provide a clear rationale in the next section of the plan (which focuses on your target market) of how you plan to compete. Some startups are able to launch into concentrated industries by finding target or niche markets that are less expensive to compete in or by lowering the overall capital requirements necessary to enter the industry through some innovative means. For example, many microbreweries have successfully entered the highly concentrated brewery industry by brewing their beer locally and relying on a local niche market clientele. Although this approach limits the nationwide potential of the microbrewery, at least initially, it lowers the costs of branding and distribution. Similarly, some companies are able to lower the capital requirements of entering an industry on a broader scale through innovative approaches.

Industry Structure

The industry is fragmented with no one company holding a market share of more than 5.0 percent. There are many small fitness centers, dance studios, gymnasiums, ice skating rinks, and similar facilities that decrease industry concentration. Barriers to entry are high at the high end of the market (full-service fitness centers) due to the high cost of real estate and equipment and low at the lower end of the market (smaller fitness clubs and dance studios) due to the plentiful nature of rental space available in strip malls.

Other structural characteristics of the industry include the following:

· Growing Preference for Easily Accessible, Smaller Fitness Centers. The market share of small fitness centers, such as 24 Hour Fitness, Snap Fitness, and Curves International, is increasing. These tightly focused centers serve a specific clientele and feature smaller facilities with fewer amenities in exchange for lower membership fees and the ability to locate near their customers.

· The Aging of the Population. Approximately 25 percent of fitness club members are 55 years old or older, as are 25 percent of all Americans. It is estimated that the present 55 year and older population will maintain a more active lifestyle and focus more on appearance and general well-being than previous generations. Older people also have more discretionary income, free time, and incentive to engage in preventative practices like fitness to avoid health problems than younger people. As a result of these factors, it is expected that the percentage of fitness club members who are 55 and over will continue to increase.

· Competition. Competition throughout the industry is strong. For-profit fitness and recreational centers must compete against centers that are nonprofit, such as the YMCA, and “substitute” fitness facilities such as those provided free or for a nominal fee by businesses for their employees and apartment buildings and condominium complexes for their tenants or owners. An increasing number of hotels and motels feature fitness centers that satisfy the needs of people who travel frequently.

· Cost and Site Selection. The best sites for full-service, high-end fitness centers are in densely populated suburban areas with an affluent population. This fact represents a challenge because these areas also have the highest real estate prices. Site selection is easier at the lower end of the market, where fitness centers such as 24 Hour Fitness and Curves International locate primarily in rented facilities in strip malls.

· Increases in Premium Services. The industry is benefiting from an increase in premium services, which are billed separately from a member’s monthly membership fee. Examples of premium services include massage, acupuncture, access to a personal trainer, and childcare.

Nature of Participants

Firms in the Industry. The industry comprises a wide variety of participants, ranging from large, full-service fitness centers run by large chains to small, single-employee dance studios and ice skating rinks. No single firm captures more than 5 percent of industry sales. The largest firm in the industry is 24 Hour Fitness Worldwide (4.9 percent), followed by Life Time Fitness (4.1 percent), Bally Total Fitness (3.2), and Town Sports International (1.9 percent).

Segmentation. The most common way to segment the industry is by product/service as shown below.

Clientele. The clientele of the industry is segmented as follows.

Age	Share of Market
6–11 years old	4%
12–17 years old	8%
18–34 years old	35%
35–54 years old	33%
55 years and older	20%
Source: IBIS World, 2013

Key Ratios

To gain as vivid a picture of the industry as possible, the following ratios were obtained from the sources cited.

Operating and Financial Ratios

	2013	2014 (Projected)
IVA/Revenue	50.7%	$50.6
Revenue/Employee	$45,200	$45,500
Wages/Revenue	30.7%	31.3%
Employees/Establishment	17.1	17.1
Wages/Employee (many employees work part-time)	$13,886	$14,205
Industrial Value Added (IVA) The market value of goods and services produced by the industry minus the costs of goods and services used in production. IVA is also described as the industry’s contribution to GDP, or profit plus wages and depreciation. Source: IBIS World, May 2013

Cost Structure Ratios (For Major Cost Categories)

Item	Percent of Cost
Wages	30.7%
Purchases	20.0%
Depreciation and other costs	7.5%
Rent and utilities	12.0%
Advertising	10.0%
Source: IBISWorld, May 2013.

Key Success Factors

The key success factors for the industry are as follows:

· Easy Access for Clients. A convenient location with easy access and plenty of parking is helpful.

· Effective Product Promotion. An effective promotional strategy increases awareness and attracts greater membership and local patronage.

· Employees with Good Technical Knowledge. Skilled employees who can demonstrate the use of various types of equipment, assist participants, and answer exercise-related questions are important for maintaining good member relations.

· Right Mix of Equipment, Classes, and Activities. Because fitness and recreational centers must compete for their customer’s time, and because an increasing number of fitness centers are targeting a specific clientele, it is important to carefully match the equipment, classes, and activities to the target clientele.

· Member Retention. The average attrition rate for fitness centers in the United States is approximately 37 percent. This means that 37 out of 100 people will cancel their memberships each year. The cost of recruiting new members is more than twice the cost of retaining an existing member. Fitness centers that are able to retain a higher percentage of their members have a competitive advantage.

· Business Expertise of Operators. The long-term success of a firm in the fitness industry ultimately depends on the skills of the operator in running the business profitably over time. This requires business-related skills along with traditional fitness-related skills and abilities.

Figure 5-3 Industry Characteristics (Prime Adult Fitness Business Plan)

The second topic regarding industry structure is the general attractiveness (or lack of attractiveness) of an industry’s competitive landscape. A structurally attractive industry, according to Harvard professor Michael Porter’s “five forces” model, should have relatively high barriers of entry to keep competitors out, not enough rivalry to create cutthroat competition, no good substitutes for the basic product or service the industry sells, limited power of suppliers to negotiate input prices up, and limited power of buyers to force selling prices down. 5  You normally won’t comment on each of these points in a brief industry analysis, but you should allude to the most salient ones. *  For example, if you’re entering an industry with high barriers to entry, that’s good; high barriers to entry deter competitors, so you should highlight that aspect of your industry in this section of your industry analysis. Of course, if the entry barriers are high, you’ll have to explain, not here but in the next section of the plan that deals with your target market, how you’re able to enter.

*  If you’re unfamiliar with Michael Porter’s five-forces model, you should familiarize yourself with the model and what it means while writing this portion of your industry analysis. A description of the model is provided in any strategic management textbook.

Nature of Participants

The next section of this portion of your business plan deals with the nature of the participants in an industry. Your reader will already know whether the industry is consolidated or fragmented. In this brief description, you want to provide your reader with a “feel” for the nature and mixture of firms in your industry. Who are the major players in the industry? What percentage of market share do they control? Are the major competitors online firms or traditional firms? You also want your reader to visualize how your firm will fit in or see the gap that your firm will fill. Although the industry analysis does not talk about your firm per se, the reader knows what your company is by reading the previous sections of the plan. Draw a mental map for your reader that shows exactly where your firm will fit into the industry.

You should also discuss how the industry is segmented. This discussion can get fairly complex because industries can be segmented in different ways. For example, the computer industry can be segmented by product type (i.e., mainframes and workstations, servers, PCs, laptops, tablets, and handheld computers) or by customer segments served (i.e., individuals, businesses, schools, and government). Similarly, you can segment the smartphone app industry by target customers (i.e., parents, business travelers, fashion enthusiasts, music lovers, sports fans, news and magazine readers, casual gamers, social influencers, etc.) or by platform they run on (i.e., Apple iPhone, RIM’s Blackberry, Google’s Android, or Microsoft’s Window’s Mobile). The best approach is to segment your industry by your point of entry. So if you’re starting a company to sell specially designed computers for elementary schools, it would make the most sense to segment the computer industry by customers served, as shown previously. As you discuss the different segments of your industry, if you know which segment is growing the fastest and/or is the most profitable, that’s good information to convey. There are also industries that have clearly bifurcated, with the most successful companies serving either the top end of the market (in terms of quality of goods and price range) or the bottom end. This trend is seen in industries such as grocery stores, where most of the money is being made by high-end stores such as Whole-Food Markets and Trader Joe’s and low-end providers such as Wal-Mart and Costco. 6  The worst place to be, in bifurcated industries, is right in the middle. Again, if you’re able to identify the most promising areas of an industry, or the areas to avoid, that information should be reported.

Ratios

It’s important to report an industry’s key financial ratios and other ratios of interest. This information provides not only further insight into the structure and attractiveness of an industry but also a point of reference to compare a company’s financial and nonfinancial projections against. For example, if a company reports in its industry analysis that the average firm in its industry earns a 6 percent net profit, and in later parts of the plan indicates that it will earn 12 percent for its first three years, the firm will need to explain how it plans to generate over twice the net income of the average firm. Similar comparisons can be made with the other numbers.

Key Success Factors

Key success factors in every industry define what an organization in the industry has to be good at to be successful. Most industries have 6 to 10 key factors. Most of the successful firms in an industry are competent in all of their industry’s key success factors, and they try to differentiate themselves by excelling in two or three areas.

You should identify the key success factors for your industry and report them in the industry analysis. If they aren’t readily apparent, reading through IBISWorld and Mintel industry profiles and looking at industry trade journals and magazines should reveal them. A technique that some people find helpful in identifying an industry’s key success factors is to pose the rhetorical question, “For a company to be successful in this industry, it must be good at… (list 6 to 10 items)”. The answer to this question is a good starting point in ascertaining the key success factors for an industry.

The key success factors vary widely by industry—they are not generic concepts. For example, the key success factors in the pet store industry are as follows:

· Attractive product presentation

· Staff with a clear knowledge of the pet industry

· High-traffic and high-visibility location

· Effective quality control (pet services must be up to standard for specific types of animals and breeds)

· Offer for sale a range of the most popular pets and pet supplies at different levels of price and quality

As you can see, this list is very specific to the pet store industry. A different industry would have a much different list.

Knowing the key success factors for an industry is important because any firm in an industry can be judged by the degree to which it covers its bases on each factor and excels (or has plans in place to excel) at one or more factors.

Industry Trends

The final portion of an industry analysis deals with industry trends. This is arguably the most important section of an industry analysis because it often lays the foundation for a new business idea in an industry (i.e., older people are becoming increasingly interested in fitness—thus, maybe a fitness club just for adults makes sense), and it typically provides the justification for claims made earlier in the industry analysis, such as why industrywide sales should be expected to continue to increase or decrease.

The two types of trends that are the most important to focus on are environmental trends and business trends. The best place to look for trend information is industry trade journals, industry-specific magazines, industry reports from resources such as IBISWorld and Bizminer, and through talking to industry participants. The Internet Resource Table in  Appendix 2.2  at the end of  Chapter 2  provides Web site addresses that are helpful in identifying the sources of this information. Many industries also have trade associations that keep their members abreast of current trends affecting their industry. For example, the International Health, Racquet and Sportsclub Association’s Web site ( www.ihrsa.org ) has a feature called “This Week in the Fitness Industry.” The feature provides fresh material each week about trends and innovations affecting the fitness industry.

The industry trends portion of the Prime Adult Fitness industry analysis is provided in  Figure 5-4 .

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 the firms in an industry, but because environmental trends shift in favor of or against the products or services sold by the firms in the industry.

The most important environmental trends are economic trends, social trends, technological advances, and political and regulatory changes. You should think through each area to determine if there are trends that are positively or negatively affecting your industry that should be commented on. For example, any industry that relies on the consumption of fossil fuels, such as the trucking industry and the airline industry, is being adversely affected by high fuel prices. In contrast, any industry that provides products or services to older people, such as health care and travel, stands to benefit by the aging of the population. Sometimes there are multiple environmental changes at work that set the stage for an industry’s future. This point is illustrated in the following excerpt from IBISWorld’s assessment of the future of the Musical Instruments and Supply Stores (industry) in the United States.

Continued improvements in the economy will boost consumer spending, which will further encourage customers to increase their spending on discretionary goods, such as musical instruments. However, the industry will continue to face challenges from large, discount retailers and online. This external competition will remain a tough threat to overcome because these stores will continue to provide comparable goods at discounted prices. Furthermore, decreased leisure time availability and the increasing popularity of alternative activities will limit demand. 7

There are a number of environmental and business trends affecting the growth and attractiveness of the fitness and recreational sports center industry. They are as follows.

Trends That Favor the Industry

· Americans are increasingly aware of the need for exercise, weight control, good nutrition, and a healthy lifestyle among both adults and children.

· Nationwide economic conditions are stabilizing, which boosts consumer confidence and makes it easier for industry participants to raise money.

· An increased emphasis on wellness is evident across many sectors of society. In particular, positive press about the benefits of yoga, pilates, and similar activities cause people to seek out businesses to offer those services.

· The increasing costs of other sports and recreational activities, such as golf and boating, can result in people opting out of those activities in favor of joining a fitness club or other recreational sports center.

· Increasing health costs are motivating corporations to invest in corporate wellness programs. Many corporations now offer fitness club memberships as a benefit.

· A growing number of parents are purchasing fitness club memberships for their children. The increase is motivated by concerns surrounding childhood obesity and the reduction of physical education programs in schools.

Trends Working Against the Industry

· Leisure time is becoming less available. Time-strapped consumers find it harder to make time to frequent a fitness center.

· Increasing prices for gasoline and health care are lowering consumers’ disposable income.

· Americans are becoming more obese, with 35.9 percent of people 20 years old or older considered overweight. Many of these individuals may not see themselves as fit enough to work out.

· An increasing number of “substitutes” for traditional fitness centers are becoming available, from businesses that feature fitness facilities on-site for their employees to apartment complexes that provide fitness facilities to their tenants as an amenity.

· Member attrition remains high at 37 percent per year on average. The cost of recruiting a new member is more than twice the cost of retaining an existing one.

Figure 5-4 Industry Trends (Prime Adult Fitness Business Plan)

This short statement illustrates the degree to which environmental change can affect one industry. Similar forces are at work in all industries, which should be discerned and reported in your industry analysis.

Some industries experience slow or no growth for years and then start to come back as savvy industry incumbents and new entrants realize that environmental change has turned in their favor. An example is the mattress industry. During the 2007–2012 time period the industry declined in overall sales. During the next five years the industry is expected to steadily increase its sales. A number of significant environmental trends are now working in favor of the mattress industry:

· The recovering housing market is expected to encourage home sales over the next five years. As homeowners move into their new homes demand for mattresses will rise.

· Americans are expected to increase their travel resulting in hotel and motel expansion. New motel and hotel construction will spur mattress sales.

· An increased interest in wellness has created a market for mattresses that improve sleep quality and provide better back support.

· Increasing disposable income will boost demand for furniture and household items, including mattresses.

· An expansion in the number of assisted living centers, nursing homes, and skilled nursing facilities will spur demand for high-end mattresses with enhancements that allow them to be electronically adjusted. 8

If you spend a few minutes browsing the Web sites of two of the largest mattress manufacturers, Sleep Number ( www.sleepnumber.com ) and Tempur-Pedic ( www.temperpedic.com ), you’ll see that they’re tapping into these exact trends. The types of trends depicted in the preceding bullet points are the types of trends that you’ll want to discern for your industry. An awareness of these trends can help startups develop more impressive industry analyses and potentially more successful business plans.

Business Trends

Other trends impact industries that aren’t environmental trends per se but are important to mention. For example, are profit margins in the industry increasing or falling? Is innovation accelerating or waning? Are input costs going up or down? Are new markets for the industry’s staple products opening up, or are existing markets being shut down by competing industries? You can’t cover every possible fact affecting an industry, but you should mention the major trends.

Long-Term Prospects

The industry analysis should conclude with a brief statement of your beliefs regarding the long-term prospects for the industry. No new information should be provided at this point. Instead, draw from the preceding sections of the industry analysis to support your conclusions. Your conclusions should be precise and to the point. No more than several sentences are required.

When you read through reports on your industry, from IBISWorld, Mintel, and Bizminer, the reports will include their assessments of the future prospects of the industry. Resist simply repeating what others are saying. Your assessment of the long-term prospects for your industry should reflect your thoughts and beliefs, and should be fully consistent with the information contained in the preceding sections of your industry analysis.

The Long-Term Prospects section for the Prime Adult Fitness industry analysis is shown in  Figure 5-5 .

The industry is likely to maintain its current trajectory. An increasing interest in fitness and the popularity of smaller, tightly focused fitness centers like 24 Hour Fitness and Snap Fitness is expected to continue to spur industry growth. The aging of the population is a long-term positive trend for the industry. Older people are becoming increasingly interested in fitness and have more money and spare time to devote to a fitness center. The nature of the industry is likely to change as a result of this development. Recreational centers that feature vigorous exercise, such as racquetball and tennis clubs, are likely to suffer, where fitness centers that offer specialized classes and equipment for older people are likely to benefit. Operating margins, which are generally between 7.0 percent and 10 percent, are likely to remain solid for well-managed centers. A bright spot for the industry moving forward is the growing prevalence of premium services. A number of fitness centers are now offering massage, acupuncture, nutritional counseling, access to personal trainers, and other personalized services. These services are billed separately from a member’s normal membership dues, and have the potential to increase overall operating margins.

Figure 5-5 Long-Term Prospects (Prime Adult Fitness Business Plan)

How the Industry Analysis Affects and is Affected by Other Sections of the Plan

Industry analysis is a foundational aspect of evaluating the merits of a prospective business venture. The industry that a company participates in, as a result of its structural characteristics, historical conditions, and current trends, basically defines the playing field that a firm will participate in. A careful analysis of a firm’s industry also lays out what is realistically possible and what isn’t realistically possible for a startup to achieve. There are some firms, like Dell in the computer industry and Starbucks in the specialty restaurant industry, which basically turned their industries upside down by introducing new business models and outperforming their industries on most if not all metrics. However, these firms are the rare exception rather than the rule. Most startups are constrained enough by their industries that their performance falls in line with what you would expect after reading their industry analysis.

The industry analysis affects the other sections of the business plan in that it provides a point of reference to work from. Savvy business plan writers find themselves referring back to their industry analysis frequently when writing other parts of their plan. The analysis is an anchor that describes how the average firms in an industry are doing and what the overall trends are, and most business plan writers benefit by constantly comparing their plan against this anchor. It also helps temper the enthusiasm of business plan writers and provides a useful reference for a plan’s readers. For example, if a startup projected a growth in sales of 17 percent per year for its first five years, and its industry is only growing at 5 percent per year, an obvious incongruity exists. A savvy reader will think, “Isn’t the industry only growing at 5 percent per year? How is 17 percent possible?” There may be an explanation, but the incongruity between the industry’s sales and the startup’s projected sales must be explained in the plan.

Chapter Summary

1. An industry is a group of firms producing a similar product or service, such as airplanes, music, electronic games, or fitness club memberships.

2. Separating the analysis of a firm’s industry and its target market is important because it’s premature for a new firm to select, or even talk about, a specific target market until an understanding of the broader industry is obtained.

3. It’s important that the industry analysis appear early in a business plan because it logically precedes the analysis of a firm’s target market and its marketing strategy. It also helps set up and support the remainder of the plan.

4. The major sections of an industry analysis include industry definition; industry size, growth, and sales projections; industry characteristics; industry trends; and long-term prospects.

5. If your firm operates in two or more industries, you should identify all the industries that it participates in and recognize that it will be necessary to conduct an industry analysis for each of the industries. Some discretion is allowed regarding the weight placed on the individual analyses. In some instances, when a firm operates in more than one industry, it may be appropriate to conduct a full analysis on the primary industry that firm operates in and an abbreviated analysis on the other.

6. The key to the industry size, growth, and sales projections portion of the analysis is to not just report the numbers. Make sense of the numbers and present them in a way that builds the credibility of your business plan.

7. The four key issues to deal with in the industry characteristics section of the analysis are industry structure, the nature of the participants in an industry, key ratios, and the industry’s key success factors.

8. The topic of industry structure is particularly important. An industry’s size and its growth rate, regardless of how positive they are, are basically moot points if an industry isn’t structurally attractive for a startup.

9. The industry trends portion of an industry analysis is arguably the most important section because it often lays the foundation for a new business idea in an industry, and it typically provides the justification for claims made earlier in the industry analysis.

10. The industry analysis should conclude with a brief statement of your beliefs regarding the long-term prospects for the industry.

Review Questions

1. What is an industry? Why is it important to include an “industry analysis” in a business plan?

2. Why is it important that the industry analysis focus strictly on a firm’s industry rather than its industry and its target market simultaneously?

3. Why is it important for an industry analysis to appear early in a business plan?

4. Why is identifying a company’s industry a tough call in many instances?

5. What should you do if your firm operates in more than one industry?

6. What are the four general rules of thumb for completing the industry size, growth, and sales projections portion of the industry analysis?

7. What topic should be discussed in the “industry structure” portion of an industry analysis? Why are these topics important?

8. Why is it important to know how an industry is segmented?

9. Why is knowledge of the key success factors in an industry important? How can an industry’s key success factors be identified?

10. Why is the industry trends portion of the industry analysis arguably the most important section of the analysis?

Application Questions

1. You just reviewed a business plan for a company that will make a fitness app that will allow its users track their exercise and monitor their fitness in an innovative way. One thing you noticed is that the plan didn’t include an industry analysis. When you asked Caleb, the author of the plan, why the industry analysis was left out, he said, “Are you kidding? My industry is one of the hottest ones in America. I just read an article that said Health and Fitness apps are one of the top categories in both the Apple and the Android App Store. An industry analysis isn’t necessary.” Do you agree with Caleb? If he said to you, “Okay, persuade me that an industry analysis is necessary,” what would you tell him?

2. Cybex International (www.cybex.com) is a company that makes premium exercise equipment for home and commercial use. What industry is Cybex in? (Provide an NAICS code.) Report the industry’s past three years of sales and sales growth, and make a prediction for its sales and sales growth for the next year. Is the industry fragmented or concentrated? What are the environmental and business trends working for and against the industry’s future growth? On a scale of 1–10 (10 is high), how attractive of an industry is the industry Cybex participates in for a startup to enter? Explain your answer.

3. Jennifer Carroll, a high school classmate of yours, is thinking about starting a company to compete with Crafty.com, the company that makes instructional videos for people who are interested in learning crafts such as knitting, quilting, crocheting, and cake decorating. Jennifer is writing a business plan and is working on the industry analysis. Jennifer’s having trouble nailing down the exact industry she will be competing in and is having trouble finding sources of information to help her discern the environmental trends that are impacting her industry. If Jennifer asked you for your help, how would you help her determine the industry her instructional video company will participate in, and what suggestions would you give her for finding information on the environmental trends that are impacting her industry?

4. Brooklyn Salsa ( www.bksalsa.com ) is a company that has launched an exciting new line of salsa dips and related products. Spend a few minutes looking at Brooklyn Salsa’s Web site and studying its business concept. If the founders of Brooklyn Salsa had carefully studied the salsa segment of the broader food industry before coming up with their business idea, what factors about the salsa segment or the food industry might have led them to the idea for Brooklyn Salsa?

5. One industry mentioned in the chapter that is fairly “hot” is the mattress industry. Spend enough time studying the mattress industry to determine whether it is structurally attractive for new entrants. Report your conclusions.

Endnotes

1. A. Son, “IBISWorld Industry Report 62161 Home Care Providers in the US,” IBISWorld, June 2013.

2. N. Panteva, “IBISWorld Industry Report 44812 Women’s Clothing Stores in the US,” IBISWorld, April, 2013.

3. G. Kawasaki, The Art of the Start (New York: Portfolio, 2004).

4. N. Panteva, “IBISWorld Industry Report 44812 Women’s Clothing Stores in the US,” IBISWorld, April, 2013.

5. M. Porter, Competitive Strategy: Techniques for Analyzing Industries and Competitors (New York: Free Press, 1980).

6. M. J. Silverstein, Treasure Hunt (New York: Portfolio, 2006).

7. N. Everett, “IBISWorld Industry Report 45114 Musical Instrument & Supplies Stores in the US,” February 2013.

8. D. Kelly, “IBISWorld Industry Report 33791 Mattress Manufacturing in the US,” January 2013.