Explain the industry life cycle and what follows from each stage
The idea
Industries pass through embryonic, growth, shakeout, mature and declining phases. In the embryonic phase demand is small, costs are high and failure rates are extreme. Growth brings rising demand, falling prices and improving profitability with little price competition. Shakeout arrives when capacity outruns demand and weaker competitors exit. Maturity brings consolidation, high barriers and stable but unspectacular returns. Decline brings overcapacity and price competition. The framework is a guide rather than a schedule: technology and regulation can return a mature industry to growth or end one prematurely.
A practice question
Which phase of the industry life cycle features rising demand with little price competition?
- ShakeoutWhy not: Defined by the opposite: capacity has outrun demand and price competition is at its most severe.
- Growth - correct
- DeclineWhy not: Shrinking demand makes every unit of volume something to be taken from a rival, which is when pricing is worst.
The life cycle has stages: embryonic, growth, shakeout, mature and decline. In the growth phase, demand rises faster than capacity. Firms can expand without taking sales from one another, so they have little reason to cut prices and profits improve. In shakeout, capacity has outrun demand and price competition is at its worst. In decline, demand shrinks and each sale has to be won from a rival. So growth is the stage with rising demand and little price competition.
A harder one
In the industry life cycle model, an industry's competitors begin exiting and capacity falls. Which phase is this?
- GrowthWhy not: Competitors enter and expand during growth; exit is a symptom of too much capacity, not of rising demand.
- EmbryonicWhy not: Failures here are of businesses that never established themselves, rather than exits that remove capacity built for a growth that slowed.
- Shakeout - correct
In the shakeout phase, demand growth slows but the factories built during the growth phase are still there. Firms cut prices to fill them, profits fall, and weaker firms exit or are bought out, so capacity comes back in line with demand. If an industry can make 120 units but demand has levelled off at 100, the excess is 120 - 100 = 20 units, or one sixth of capacity, which must close before prices recover. In the growth phase firms enter and expand, and in the embryonic phase failures are of businesses that never got established.
The hardest tier
In the industry life cycle model, an analyst forecasts an industry's returns from its life cycle phase alone. What is the risk?
- That the phases are defined differently by different providersWhy not: Definitions vary a little, but the real danger is that an industry can be moved between phases by events the pattern does not anticipate.
- That an industry can move between phases - correct
- That the framework applies only to manufacturingWhy not: It has been applied across services, software and resources alike; nothing in it is specific to making things.
The life cycle describes a common pattern, not a fixed timetable. A new technology or a change in regulation can push an industry into a different phase from the one the pattern predicts. A forecast based on the current phase alone can then be badly wrong. For example, a mature industry whose product is replaced by a new technology can move straight into decline, so forecasting steady returns from its mature label would overstate future profits. The risk is not that providers define phases slightly differently, and the framework is not limited to manufacturing.
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