tango_gs

Darius Jackson was just hired as an entry-level analyst at Zinsser Securities. On his first day, investment director Marvin Campbell assigns Jackson the task of analyzing some companies and their industries. The first two companies Jackson must consider are Smith Co. and Jones Inc.

After a little research, Jackson has acquired the following information about Smith and Jones:

	Smith	Jones
Profit growth	Below industry average	Above industry average
Acceptance of products	High	Moderate
Demand for products	Low	Low
Profit margins	High	Low
Performance during expansion	Sales rise	Sales rise

After assessing the characteristics of the industries to which Smith and Jones belong, Jackson decides to prepare a supply-and-demand analysis for the industries. To that end, he e-mails a co-worker and longtime friend, Emily Stanton, a senior analyst at the firm. Jackson asks Stanton for Zinsser’s files on the relevant industries.

Stanton sends over a bulky folder on each industry, and Jackson inventories the contents:

• Item 1: Information on weather patterns and political unrest in key production regions.
• Item 2: Studies on the relationship between inflation and buying patterns.
• Item 3: Recent regulatory changes and projections of what is likely to happen in the event of a change in the party controlling Congress.
• Item 4: A breakdown of the new products recently launched or under development by major players in the industry.
• Item 5: Analysis of the economic and business pressures facing major end markets.
• Item 6: A report on industry concentration and the capacity of major companies in the industry.
• Item 7: Reports on companies Zinsser covers, including Smith and Jones.

In his review of the information provided by Stanton, Jackson learns the following about Smith:

• The Federal Trade Commission is considering the revocation of a tariff on one of Smith’s most important products.
• Smith’s biggest concern is that rivals’ products will render its own obsolete.
• Because of environmental concerns, permits for factories that produce Smith’s main output are difficult to acquire.
• The consumer products Smith makes are quite expensive, catering to an upscale clientele.
• Smith differentiates itself based on quality.

After completing his analysis of Smith and Jones, Jackson turns to his next task. He must calculate the expected growth rate of Cobbleman’s Curious Commodities. Jackson reviews some information about Cobbleman’s. However, since the company’s business is an unusual niche, with minimal information available, he is having trouble determining the life cycle of its industry. At the moment, there is little demand for the company’s products, and those products are not capturing the imagination of the market. Cobbleman’s has also issued new stock several times in the last five years. He suspects the company’s industry is in either the pioneer or decline stage. Based solely on Jackson’s initial research, and assuming the economy is contracting, how are Smith and Jones best classified?

Smith

Jones

A) Growth Cyclical

B) Defensive Defensive

C) Growth Defensive

---

The key to answering this question is profit margins. Acceptance of products is relevant to the life-cycle model, which we are not using here. Profit growth relative to the industry also does not tell us anything about cyclicality, and most companies’ sales rise during expansions. However, growth companies can keep profit margins high even in contracting economies. So can some defensive industries. However, cyclical industries tend to have weak profit margins during difficult economic times. Thus, the most logical combination is to classify Smith as a growth company and Jones as a cyclical company. (Study Session 11, LOS 37.c)

---

Based solely on Jackson’s initial research, how are the industries to which Smith and Jones belong best classified?

Smith

Jones

A) Mature Pioneer

B) Growth Decline

C) Growth Pioneer

---

Demand for the products is low, but we cannot read much into that, because we do not know the state of the economy, and demand for most products declines when the economy is weak. The key factors to assess are acceptance of products and profit margins. Moderate acceptance of products is a hallmark of a pioneer industry, as are low profit margins. Smith’s product acceptance is high, which could indicate either a mature or growth industry. But high profit margins are indicative of a growth industry. Profit growth is a red herring, as within any industry in any stage of the business cycle, there will be companies with growth higher or lower than the industry average. (Study Session 11, LOS 37.b)

---

Which of the items in the company research folder is of the least use in analyzing demand?

A) Item 3.

B) Item 4.

C) Item 1.

---

Item 1 is useful for assessing supply issues, but not demand. Both of the other items could have value in demand analysis. Both regulatory changes and the addition of new products to the market can affect demand. (Study Session 11, LOS 37.e)

---

Jackson wants to conduct a supply analysis for Jones. He should rely most heavily on:

A) Item 2.

B) Item 5.

C) Item 6.

---

A report on industry concentration and capacity directly bears on supply analysis. Items 2 and 5 are of more use on the demand side. (Study Session 11, LOS 37.e)

---

Based solely on Jackson’s review of Smith’s industry using Stanton’s data, which of the following conclusions is safest to draw?

A) Smith should enjoy substantial pricing power over the next year.

B) Smith’s industry is in the mature stage of its life cycle.

C) Smith is more susceptible to foreign influences than to changes in the inflation rate.

---

In the mature stage of an industry, the chief worry regarding technology is whether new technology will supplant the old. Smith’s concerns suggest it is in a mature industry. While the information on differentiation by quality and barriers to entry (permit problems) are indicative of current pricing power, pending action on the tariff could have a significant effect. Given the uncertainty, we can’t assume Smith will have pricing power going forward. Furthermore, we do not have enough information to assess whether foreign influences are more important than inflation. (Study Session 11, LOS 37.b)

---

Jackson should know that Cobbleman’s industry is in the pioneer stage because of its:

A) high requirements for capital.

B) low profit margins.

C) low demand for products.

---

Both the pioneer and decline stage are often accompanied by low profit margins and low demand. However, industries in decline do not generally have high capital requirements. (Study Session 11, LOS 37.b)

tango_gs

Which of the following factors is least likely to be included in an industry analysis?

A) International competition.

B) External factor review.

C) Static-tradeoff theory.

---

The factors that should be included in an industry analysis are: industry classification, external factor review, demand analysis, supply analysis, profitability analysis, and international competition and markets review. Static trade off theory states that each firm has an optimal debt structure which balances the value of debt’s tax shield and the costs of potential financial distress.

tango_gs

All of the following factors should be included in an industry analysis EXCEPT:

A) international competition and markets review.

B) industry weaknesses.

C) industry classification.

---

The factors that should be included in an industry analysis are: industry classification, external factor review, demand analysis, supply analysis, profitability analysis, and international competition and markets review. Industry weaknesses are implicitly considered in the analysis but are not a separate category.

tango_gs

Which of the following is NOT a factor that is typically considered in an industry analysis model?

A) Profitability analysis.

B) Demand analysis.

C) Yield curve analysis.

---

Yield curve analysis is not a factor that is typically considered in an industry analysis model.