Economics

and industry analysis:

First class: 11/05/2019

¾ Industry:
1. Group of players producing close substitutes to each other.
2. Group of players sharing common production techniques.
3. They are searching for profits.

Ultimate Target

Profit satisfying
Maximize revenue
Maximize profits= reach the minimum level
(Total Revenue / sales
total revenue - total cost of profits that satisfies
revenue)
the sharholders

Note:

When I analyze a client, you as an analyst should do the following:

1. You should look at the market segment of the targeted firm.

¾ Market segment: A group of customers having common characteristics according to their:
- Income level
- Age
- Geographical location
- Gender
2. You should know which segment of the industry your client relates to.
¾ Industry segment: Group of players who target the same market segment. For example, National
bank of Egypt and Banque du Caire on one hand, and QNB and CIB on the other hand.
You as an analyst should identify the competitors of your client through looking at the industry segment.

Q. what is the difference between Industry and sector?

1. sector: ‫اﻟﻘطﺎع‬
- Group of industries related to each other.
- Has a broader dimension compared to the industry.
2. Industry: Classified as part of the sector.
Examples: Financial sector:

- Banking industry,
- Insurance industry,

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- Brokerage industry,
- leasing industry,
- private equity industry,
- Investment banking industry.
¾ Primary sector: Raw materials
¾ Secondary sector (manufacturing sector) for semi-finished ‫ ﺗﺣوﯾل اﻟﻣﺎدة اﻟﺧﺎم‬
¾ Tertiary Sector: anything related to service. For example: health, education, Information
Technology)
Note: as economies develop, the relative importance of the primary sector decrease and the relative
importance of the secondary and tertiary sector increase according to the country’s direction.

Developed countries usually focus on primary products ‫ اﻟﻣواد اﻟﺧﺎم‬and the developed economies focus on
semi-finished and finished products.

The relative importance of the sector is realized through:

1. It’s contribution in the GDP.

2. Number of job vacancies created in the sector.
Having said that, sectors fall under two main categories which are public sector and private sector.

Q. what is industry analysis?

1. It is a market assessment tool that is used to identify the key success factors and the key risk
factors in a certain industry.
2. It is used to identify the competitive position of the firm under study.
3. It is used to compare the performance of the firm under study against its competitors.
4. It gives the creditors feedback and background whether to expand or contract the business
relationship with the players in certain industry.
5. Help the analyst to identify the growing number of new industries that emerge on a frequent
basis.
Q. Classify the types of industries?

An industry could be classified as product industry or service industry:

1. Product industry: is that industry producing and selling tangible products. For example,
Construction industry and automotive industry.
1.1. In other words, it’s a manufacturing process to transfer the raw materials to semi-finished or
finished goods.
1.2. Under this manufacturing process, a manufacturer could be classified as follows:
Processor ‫اﻟﻌﻣﻠﯾﺎت اﻟﺗﺣوﻟﯾﺔ‬ Fabricator ‫ اﻟﻌﻣﻠﯾﺎت اﻟﺗﺷﻛﻠﯾﺔ‬ Assembly ‫ اﻟﻌﻣﻠﯾﺎت اﻟﺗﺣﻣﯾﻌﯾﺔ‬

Involved in the process of Reshape the refined raw Collect all the parts of the final
transferring a crude raw material material. product.
into a refined one. ‫ﯾﺟﻣﻊ ﻛل اﻟﻘطﻊ اﻟﺧﺎﺻﺔ ﺑﺎﻟﻣﻧﺗﺞ اﻟﻧﮭﺎﺋﻲ‬
‫ﻋﻣﻠﯾﺔ ﺗﺣوﯾل اﻟﻣﺎدة اﻟﺧﺎم اﻟﻲ ﻣﺎدة ﺧﺎم ﻗﺎﺑﻠﺔ‬ .‫و ذﻟك ﻟﺗﺟﮭﯾزة ﻟﻠوﺿﻊ اﻟﻧﮭﺎﺋﻲ ﻟﻠﺑﯾﻊ‬
‫ﻟﻺﺳﺗﺧدام‬ ONE FINAL PRODUCT

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Having said that, here comes another question which is, what is the high risk state of production?
Processor ‫اﻟﻌﻣﻠﯾﺎت اﻟﺗﺣوﻟﯾﺔ‬ Fabricator ‫ اﻟﻌﻣﻠﯾﺎت اﻟﺗﺷﻛﻠﯾﺔ‬Assembler ‫اﻟﻌﻣﻠﯾﺎت‬
‫ اﻟﺗﺣﻣﯾﻌﯾﺔ‬

HIGH RISK MODERATE RISK LOW RISK

Reasons: Reasons:
1. Needs huge capital investment 1. This stage needs
in capital investment machines. sophisticated
2. Has a huge uncertainty to find machines to
the crude raw material, hence, reshape the
uncertainty to maximize refined raw
utilization if huge capital material.
machines.
3. Capital equipments and
machines are very costly
4. The cost of R&D to discover
mines and reach the raw
material.

What comes next after manufacturing the final product?
Wholesaler (B2B) Retailer (B2C)

Intermediary between the manufacturer and In the entity that is going to deal directly with
the retailer the end user.

Success factors: Success factors:

1. Larger fleet 1. Wide base of customers
2. Good storage area 2. Good geographical location
3. Can take on credit from 3. Directly related to the manufacturer
manufacturers 4. Can take on credit
4. Have a wide base of retailers 5. Good after sale service
5. Asset conversion cycle is short. 6. Accurate forecasting for the market
demand.

Note:
These channels are not necessarily fully present in any deal. From here comes the concept of
“disintermediation” or “forward integration” ‫اﻟﺗﻛﺎﻣل ﻟﻼﻣﺎم‬. Meaning that to eliminate any
intermediaries between the manufacturer and the end user.
For example, Dina Farms (has its own distribution channels).
Ø Benefits of disintermediation is as follows:
- Higher profit margin,
- Maximize customers’ loyalty.
2. Service industry: is that industry producing and selling intangible products. For example, Real
estate and car maintenance.
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Under service industry there is another classification as follows:

2.1. People services: which are services relying on the quality of the service providers. For example
Doctors, external auditors, legal advisors.
This category comes under:
- Consumer banking
- Retail banking
- Microfinance
It doesn’t require huge capital investment.

2.2. Asset services: which are services relying on huge capital investment. For example, Banking,
Education and health.
This category comes under:
- Large corporates.
Ø Note: An industry could also fall under a different classification. It could be classified as
either labor intensive or capital intensive.
Ø Moreover, and industry could be classified according to the degree of concentration as
follows:
Concentrated industries ‫ ﺻﻧﺎﻋﺎت ذات ﺗﻣرﻛز‬Fragmented industries
‫ﻋﺎﻟﻲ‬
Industries with few players each with a big Too many players each with a limited
market share. market share.
For example: Steel, Telecommunication, For example: Fast Food, Advertising
and Cement. agencies, Textile, and Travel agencies.

Market structures:

We can classify industries according to four types of market structures.

1. Perfect competition ‫( ﻣﻧﺎﻓﺳﺔ ﺗﺎﻣﺔ‬Fragmented industry and not existing in the real world)
Ø Too many players and too many customers
Ø Law barriers of entry and exit
Ø Products are identical
Ø Each player has a limited market share
Ø Each player has no influence over the market price
Ø Each player is a price taker not maker.

Example: agriculture industry

2. Monopolistic competition ‫( ﻣﻧﺎﻓﺳﺔ إﺣﺗﻛﺎرﯾﺔ‬Very common Type of market structure – fragmented

industry)
Ø Too many players and too many customers
Ø Each player has a limited market share but relatively bigger than perfect competition
Ø Close substitute products but differentiated
Ø Law barriers of entry and exit
Ø Players are price makers not takers

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Ø Product differentiation will be through brands/ advertising/ marketing.

For example: cafes, Travel agencies.

3. Oligopoly market structure: ( three players and above – Concentrated industry )

Ø Very few players, and each player with a big market share.
Ø High barriers of entry and exit
Ø Products may be identical or differentiated according to the nature of the industry
Ø Players are price makers
Ø Players’ decisions are interdependent, meaning that, each decision by one player will find a
very strong reaction from the other players.
Ø Price strategies:
- Price war: for the sake of end user and against the favor of the existing players
- Collusion ‫إﺗﺣﺎد ﺑﯾن اﻟﻣﻧﺗﺟﯾن‬: group of players behave as if they are monopolists.
They agree on the market price and market shares.
The collusion falls under two categories:
1. Explicit collusion (Legal) ‫ ﻣﻌﻠن‬
2. Implicit collusion (Illegal) ‫ﺿﻣﻧﻲ‬, if the government discovered any legal documents
proving the existence of implicit collusion, the companies doing it will be subject to
very significant penalties.
4. Monopoly (Concentrated industry):
Ø Only one player
Ø Impossible barriers of entry and exist
Ø Price maker
Ø Producing a product that has no substitutes

For example: Utilities like water, gas and electricity - Uber and careem after acquisition.

Pros of monopoly in some cases:

1. Basic utilities are offered at affordable prices to people.

2. One player can reduce cost/unit. So monopoly would help serve the product at a better price.

Second class: 18/05/2019

Q. what are the dimensions of industry analysis?

There are two main dimensions as follows”

1. Quantitative analysis: this analysis deals with the financial analysis of the industry under study.
(this dimension will be covered in details in FS&A course)
2. Qualitative analysis: this analysis mainly focus on the quality of the industry under study. (Main
concern of this course).

Qualitative analysis includes four major steps as follows:

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1. Macro environmental analysis according to PESTEL framework. It mainly focuses on the external
environment outside the industry.
2. Micro environmental analysis according to
2.1. Michael’s five forces model
2.2. Seven risk characteristics:
2.2.1. Cost structure
2.2.2. Stages of maturity
2.2.3. Cyclicality
2.2.4. Profitability
2.2.5. Dependence
2.2.6. Substitutes
2.2.7. Regulations
3. Analysis on the firm itself (analyze the firm internally)
4. SWOT analysis.

Starting with the second point in the qualitative analysis. To be specific, “the seven risk characteristics”.
These risks are mainly related to the nature of the industry itself, and these risks are applicable to all
players in the industry under study.

¾ First risk: Cost structure:

Total cost = fixed cost + variable cost

Fixed cost is defined as the cost that does not change with the change in the level of output. In other
words, fixed cost has a positive value even when the level of output equals zero. For example, rent,
insurance and debt interest and salaries.

On the other hand, variable cost is defined as the cost that change with the change in the level of
production. It increases as the level of output increases and vice versa. Variable cost equals zero, when
the level of output is equal to zero. For example, cost of raw material, wages and transportation cost

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over the short run

fixed inputs (capital
variable inputs
machinery)

over the long run

investement
decesions or Note: There is no fixed
business palnning cost over the long run, it
However, is all variable.

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Notes:

¾ When the fixed cost < variable cost, we name this industry as “low operating leverage industry”.
Low risks and low exit barriers. For example, Restaurants and travel agencies.
¾ When the fixed cost > variable cost in the industry under study, we name this industry as “high
operating leverage industry” ‫ﺻﻧﺎﻋﺔ ذات رﻓﻌﺔ ﺗﺷﻐﯾﻠﯾﺔ ﻣرﺗﻔﻌﺔ‬, and this industry is characterized by high
profits and high risks.
¾ When the level of demand on the industry under study decrease, the cost per unit increase.
Average fixed cost = total fixed cost / output

When the fixed cost is dominating Number of
in the cost structure. Example, units produced
airline industry (Egypt air)

¾ Economics of scale: the more you produce, the lower the average total cost per unit.
¾ The rescue factor for high operating leverage industries is the market demand.
Higher demand, lower average total cost, therefore higher profits (economies of scale)
Lower demand, higher average total cost, and lower profits
¾ High fixed cost is considered a barrier to entry. Therefore, you will find that these industries are
usually concentrated and have few players.

First scenario Total revenue > Total cost Profits No problem ü

Second scenario Total revenue = Total cost Breakeven No problem ü
Third scenario Total revenue < Total cost Economic losses Problem û
In the third scenario, you need to break down the cost structure to variable cost and fixed cost, for
example:

¾ Total Revenue = $ 1,700,000

¾ Total cost = $ 2,200,000
Fixed cost = 1,500,000 Variable cost = 700,000
Has nothing to do with production. It Cost Related to business running.
will be paid anyways, even if the Higher production, higher cost. (direct
production level is equal to zero. relationship)
As long as the total revenue > variable cost, then there is no problem, but a better operational strategy
should be followed (hand able case, don’t reject it)

Total losses equals = 1,700,000 – 700,000 – 1,500,000 = $ 500,000 (still there is a portion of the fixed cost
uncovered)

Then in this case if the owner decided to shut down his operations temporarily to figure out how to run
his operation profitably, the cost of shutting down equals = 1,500,000. However, if he proceeded in his
operations, his losses = $ 500,000.
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On the other hand, if the total revenue < total cost as follows:

¾ Total Revenue = $ 1,700,000

¾ Total cost = $ 3,500,000
Fixed cost = 1,500,000 Variable cost = 2,000,000
Has nothing to do with production. It Cost Related to business running.
will be paid anyways, even if the Higher production, higher cost. (direct
production level is equal to zero. relationship)

You either shut down operations temporarily under you figure out how to come back to operate
profitably or you exist completely.

¾ In case of operating at a loss, losses = 1,700,000 - 2,000,000 – 1,500,000 = 1,800,000

¾ In case of shutting down the losses = fixed cost = 1,500,000

Shutting down in this case is a better decision.

¾ Risk mitigation in case of high operating leverage industry:

1.Diversify product lines
2.Diversify market segments
3.Acquisition and merging
4.Make offers on your products
“Your target is to gain bigger market share because demand is your rescue factor to reduce
the average fixed cost per unit”




¾ Second risk: stages of maturity: (Product life cycle)
Any industry should pass through different stages of maturity

Emerging
industry

Matured
industry

declining
industry

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1. Emerging industry:
1.1. Industry that occurs due to changes in consumer wants and advances in technology. For
example, wearable techs (apple watch to trace your heart beats and blood pressure)
1.2. Its startup cost is very high. Very high initial investment spending
1.3. Risk factors are:
1.3.1. Uncertainty is very high in the emerging industries
1.3.2. Success and failure is very high in the emerging industries. For example, Samsung
note was full of many defects.
1.3.3. Good qualities and specifications are uncertain
1.3.4. Start up prices are very high, later they produce on a larger scale and decrease
prices.
1.3.5. Number of players are uncertain
1.3.6. Know how is limited
1.3.7. Lack of access to information
1.3.8. Fluctuations in the sales is very high
1.4. Emerging industry includes
1.4.1. Embryonic stage:
§ very early stage
§ high risk
§ uncertainty is very high
§ market players are unknown
1.4.2. Growing stage:
§ More stable relatively compared to the embryonic stage
§ Know how well established
§ Moderate risk
1.5. Success factors:
1.5.1. Growing stage
1.5.2. Market leader ( ex: apple)
1.5.3. Have deep financial pockets to spend on R & D.
2. Matured stage:
2.1. Long term established firms
2.2. Demand is stable
2.3. Products standards is very well known ‘
2.4. Demand is a necessity
2.5. Demand is inelastic
2.6. Know how is well known
2.7. Clear distribution channels
2.8. Risk is low
2.9. Very easy to access the background of the firm
2.10. Growth rate in sales in in line with the growth rate of population
3. Declining stage:
3.1. Growth rate is by negative
3.2. Demand is declining

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3.3. The industry became declining due to changes in consumers’ tastes and advances in
technology that created other substitutes in the industry.

Note: in general, declining stage is a high risk opportunity for banks, but you as an analyst
need to be cautious. Sometimes, you might have a client who can serve clients and maintains
his market share in the declining stage. For example, ‫ﻣﺻﻧﻊ اﻟﻧور ﻟﻠﻐﺳﺎﻻت اﻟﯾدوﯾﺔ‬.

In the declining stage you should analyze each client case by case. Not all the declining stage
industry clients are high risk.

Declining stage may find a potential in a market that was underestimated. For example,
inferior goods or low quality goods will have a great potential during the coming period and
this is due to the very poor economic condition.

¾ Third risk: Cyclicality:

To elaborate this part we shall first elaborate what is the “business cycle” or “trade cycle”:

Inflationary gap

Contraction
Recovery

Recessionary
gap

• Economic expansion: high GDP, Low unemployment rate, High inflation

• Peak: full utilization of resources, and maximum level of output
• Contraction: slowing down the level of economic performance (slowing down of growth rate)
High unemployment rate, lower inflationary pressure.
• Recession: -ve growth rate, GDP is declining, Deflation, high unemployment
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• Trough (depression): it’s a long deep depression.
• Recovery: slight inflationary pressure, high GDP, Low unemployment.

Having said that, cyclicality measures the response of each industry to the business cycle. We can classify
industries to three types according to cyclicality:

1. Cyclical industries
1.1. Direct or positive relation with the business cycle
1.2. It expands with the economy as it expands and vice versa
1.3. Example: luxuries products and tourism industry
2. Non-cyclical industries (low risk)
2.1. It is independent of the business cycle
2.2. Demand is very stable
2.3. Example: necessary products like food
3. Counter cyclical industries (high risk)
3.1. It has inverse or indirect or negative relationship to the business cycle
3.2. It contracts when the economy expands and vice versa
3.3. Example: inferior goods, second hand goods
3.4. Its duration is very short, because it depends of the periods of recession which is short by
nature
Ø Note:
o Low cyclical: means that influenced slightly by the business cycle.
o Moderate cyclical: moderately influenced by the business cycle (moderate risk)
o High cyclical: highly influenced by the business cycle (high risk)
¾ Fourth risk: profitability:
4.1. Consistent profitable in expansion and recession (low risk)
4.2. Consistent profitable but experiences mild decline in its profits in economic contraction
(moderate risk)
4.3. Profitable in economic expansion but experiences loses in economic contraction (high risk)
¾ Fifth risk: Dependency:
5.1. It measures the extent to which the industry is highly dependent on supply side or demand side.
Industry Customers
Suppliers

5.2. Wide base of suppliers and customers (low risk)
5.3. Limited number of suppliers and customers (high risk)
¾ Sixth risk: Substitutes:
6.1. They can replace each other to satisfy the ultimate need of the end user.
6.2. Substitutes dimensions:
6.2.1. Substitute product ‫ اﻟﻣراﻋﻲ‬,‫ ﺟﮭﯾﻧﺔ‬,‫ﻟﻣﺎر‬.
6.2.2. Substitute industry for example Nido and creamer
Substitute industry for the whole Substitute product.
6.3. Too many substitutes within the same industry (high risk)
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6.4. Too many substitute products (high risk)
6.5. Too many substitute industries (high risk)

¾ Seventh risk: Regulations:

7.1. Regulations that control the whole business environment
7.1.1. When the regulations are consistent and predictable (low risk)
7.1.2. The more instability, volatility and inconsistency in the regulations, the higher the risk.
7.2. Regulations unique to the industry itself
7.2.1. For example:
Low risk examples: export subsidies, energy subsidies, tax exemption, trade protection
against substitute alternative product.
High risk example: more taxes, removal of subsidies, deregulations meaning that giving
licensee to new players to enter the industry.

Third class: 24/05/2019

Qualitative analysis includes four major steps as follows:

1. Macro environmental analysis according to PESTEL framework. It mainly focuses on the external
environment outside the industry.
1.1. Political factors

This factor focuses on:

¾ The stability vs the instability of the political life. Generally speaking, having a stable political
environment gives a positive appetite to investment.
¾ Uncertainty vs certainty in making political and economic decisions.
It worth noting that what attracts any entrepreneur is:
- The stability of the political environment. For example, the Egyptian economy in 2011 –
25th of January revolution – suffered complete instability which negatively impacted the
investment during that period.
- Fluctuation of regulation. Meaning that the uncertainty about the benefits of laws and
regulations issued. For example today you issue a law and then you put it on hold. So the
entrepreneurs at this point won’t be able to have a clear vision about the business and
regulatory environment in the targeted country.
- Randomness in making political decisions has a very negative impact on the business
appetite.
¾ Transparency Vs corruption.
¾ The extent of government intervention in the economy:

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- The government role should be limited to the production of basic necessities. It should
never act as a producer and compete with the private sector because this will be unfair
competition.
- The greater the government intervention, the higher the risk for any entrepreneur to
enter the industry.
- The higher the government intervention, the worst the economic life.
- Government role should be limited to supporting poor people and providing basic
necessities.
¾ Economic system:
- Free market economy (capitalist) ‫ رأس ﻣﺎﻟﻲ‬: is an economic system based on supply and
demand with little or no government control. For example Hong Kong and Singapore
- Mixed economy: an economic system combining private sector and the Government. In
some cases the government has the upper hand, and in other cases the government
intervene in special cases like recession and natural disasters.
- Command economy (planned economy) ‫إﺷﺗراﻛﻲ‬: an economy in which production,
investment, prices, and incomes are determined centrally by the government. For
example, Iran, North Korea and Egypt during the presidential period of Gamal Abdel
Nasser.
1.2. Economic factors (will be covered in the next class)
1.3. Social factors
This factor focuses on the following:
¾ Size of the population.
Anything serving a big share of wide population is considered very promising
¾ Age groups:
- The higher the rate of young people, the higher the demand on many services including
education, housing…
- 70 % percent of the Egyptian economy lies below 35 years old – so this is considered a
young society by all its means.
¾ Values and traditions:
- Each sector should be served fairly. For example, comparing Islamic events to Christian
events. You will see that Christians were not served fairly like Muslims in terms of the
nature of the food they need to fast. However, nowadays, they are served with a wide
range of vegan food that satisfies a wide range of different tastes.
- Moreover, in Egypt for example, we have so many different holidays to celebrate the
smallest events that could ever happen
Like: labor day, 25th of jan revolution, 30th of june revolution, Islamic events, Christian
events, national days, and many many others vacations that has nothing to do with the
nature of our culture.
¾ Sense of consumerism ‫اﻟﻧزﻋﺔ اﻹﺳﺗﮭﻼﻛﯾﺔ‬:
- Consumerism can be defined as an economy and social order which encourages the
buying of goods and services in even greater amounts.

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It is very high, unjustifiable and irrational in countries like Egypt and very low in countries
-
like Japan that the government forces the Japanese employees to take their annual
vacations to stimulate more spending.
¾ Income distribution: (‫ طرﯾﻘﺔ ﺗوزﯾﻊ اﻟدﺧل )اﻟﻣﺳﺎواة‬
- In the Egyptian economy, 2% of the population owns 80% of the wealth.
- > 50% are below the poverty line

These two factors lead to very high demand on luxurious products and very high demand on
inferior products with taking into consideration the very poor and tight economic status the economy is
suffering.

1.4. Technological factors

The higher the government spending on the R&D. and the higher its dependency on high tech
industries. The more interesting and promising these industries to join. It becomes very promising
and motivating business environment for entrepreneurs.

For example, the Egyptian spending on R&D from the GDP is 1%. On the other hand Qatar and
Israel spends around 14% on R&D.

1.5. Environmental factors

- Green economy ‫اﻷﻗﺗﺻﺎد اﻷﺧﺿر‬:
It is the concept that developed economies follow the trend of getting rid of all activities
that harm their environment.
They started to focus on more environmentally friendly industries.
For example, Italians want to transfer all activities related to ceramic, leather and cement
to Middle East region and this is to limit the pollution in their environment.
This initiative is unfair but it will create:
§ More Job vacancies
§ Higher foreign reserve
§ Higher income level
§ Lower poverty rate
§ Higher standard of living

It worth noting that Egypt has a wide space of land for these investments and fortunately
it is so far away from the residential regions.

- Global warming ‫اﻹﺣﺗﺑﺎس اﻟﺣراري‬: it is defined as the erosion of the ozone layer
This issue harmed two industries in Egypt:
§ Tourism: due to the unpredictable weather status, tourism was harmed to a
great extent.
§ Agriculture: due to the extreme fluctuations in weather conditions,
agriculture products did not survive and this industry realize losses with huge
amounts.

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1.6. Legal factors

Rules and laws that control business environment:

§ Taxation law
§ Investment law
§ Environmental law
§ Labor law
§ Health and safety law
§ Competition law

The higher the restrictions on the regulatory system, the higher the risk of operations.

I.e. it is a plus when you work in a loose business environment so you could maneuver using your
connections.

Note: PESTEL model is sometimes known as PEST Model, where the environmental and legal factors
fall under the political factors.

P E S T

POLITICAL

ENVIRONMENTAL LEGAL

2. Micro environmental analysis according to
2.1. Michael’s five forces model
¾ Objective: to identify the competitive edge of the business firm in the industry under study.
¾ As an analyst you want to know the competitive edge of your client inside the industry (Higher
competitive edge means lower risk)
¾ Competitive edge of the client depends on five main factors:

“Refer back to the material page 35 to 38”

Added notes during elaboration from the material:

Threat of new entrants:

Barriers to entry

Existing players New players

The risk is very low The risk is very high

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Justification: it is highly protected against Justification: the risk is very high if he
any potential competition. entered the market, and even if a new
Ex: Ezz Steel player managed to enter, the competition
will be very high.

- What are the barriers to entry:
§ High fixed cost (leads to high operating leverage)
§ High initial investment needed to start the business
§ Legal barriers such as licenses and permeations needed to start the business.
§ Know how
§ Accessibility to natural resources and raw materials needed
§ Lack of accessibility to distribution channels
§ Brand loyalty to existing players
§ Economies of scale
§ Huge Penalties in case of existing if you signed long-term contracts with the
government
§ Family barrier “emotional barrier”
§ Market is saturated with the existing players (rate of growth in sales is not
promising and the demand is not increasing)
§ Limited access to funds from banks (may be the bank’s portfolio is already
saturated from this industry)

Note: the higher the barrier to exit, the higher the barrier to entry. The cost is
represented as either

§ Higher fixed cost burden in case of long term contracts

Or

§ Difficulty of liquidation in case of concentrated industries

Threat of substitutes:

Industry

It includes competitors that produce substitute products
such as al Jawhara and Cleopatra

Threat of having a
substitute industry

Substitute Industry

Such as porcelain, marble and HDF
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- The more the availability of substitute industries, the higher the risk for the players and
the higher the client’s risk for the bank.
- If the substitutes are not close, then the risk is low.
Intensity of rivalry of the industry under study:

¾ The higher the intensity of rivalry among the existing players, the higher the risk
When the intensity of rivalry between players is high?

1. in case of selling identical products and lack of differentiation

2. Law barriers to entry
3. Equal or close market shares
4. Too many players in the industry with equal or close market shares.
5. High barriers to exit (high fixed cost)
6. Demand is declining and not promising
How to mitigate?

1. Product differentiation
2. Merge and acquisition

2.2. Seven risk characteristics. (Covered last class)
3. Analysis on the firm itself (analyze the firm internally) (will be covered in FS&A)
4. SWOT analysis.
- SWOT analysis (strengths, weaknesses, opportunities and threats analysis) is a framework
for identifying and analyzing the internal and external factors that can have an impact on
the viability of a project and a product.

Internal Factors External factors

Strengths Opportunities
Weaknesses Threats
Firm internal analysis PESTEL + 5 forces model + 7 risk characteristics

Industry analysis:

1. GDP
It measure the market value of all final goods and services produced inside the economy in one
year
§ Market value: current price
§ Final goods & services: exclude the intermediate goods
§ Inside the economy: production by nationals and internationals within
the boundaries of the country.

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§ One year: during a period of one year (current year)
¾ GNP: it measures the value added of Egyptian people inside and outside the economy.
¾ GNP = GDP + income earned by Egyptians outside Egypt – income earned by foreigners inside
Egypt.
¾ Real GDP: adjusted for inflation by fixing a base year.
./01
¾ 𝑅𝐺𝐷𝑃 𝑃𝑒𝑟 𝐶𝑎𝑝𝑖𝑡𝑎 =
234567 89 :8:3;<=>8?
¾ Why GDP or RGDP is considered an unreliable measure?
§ Because it does not measure the size of the informal economy
§ GDP might be inflated because of military spending not because of actual growth.
§ Inequality of income distribution.
So here we have to differentiate between two concepts which are economic growth and
economic development.
• Economic development: is the improvement in people’s wellbeing and welfare
• Economic growth: it is just the increase in GDP without actual reflection in
people’s standard of living

What other index to use?

“Human Development Index” (HDI): it takes into consideration RGDP/head, levels of

-
education and life expectancy.

2. Economic growth rate

𝑅𝐺𝐷𝑃 2019 − 𝑅𝐺𝐷𝑃 2018

𝑔𝑟𝑜𝑤𝑡ℎ 𝑟𝑎𝑡𝑒 = ∗ 100
𝑅𝐺𝐷𝑃2018

+ve value -ve value

There is growth in the economy Recession and the economy is shrinking

Note:
¾ The rate of economic growth in the developing countries > the rate of economic growth
in the developed countries.
This is because the developed economies already reached to the maximum utilization
of resources. However, developing countries still have unutilized resources.
¾ The growth rate should be in line with the inflation rate.
If inflation rate > growth rate then this is a problem.
¾
3. Inflation (Next Class)
4. Forex (Next Class)
5. Macroeconomic policy (Next Class)

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Fourth class: 25/05/2019

Recommended sites to access more data about specific industries:

1. Economies of trade
2. World bank / IMF
3. American Chamber

GDP is measured through three ways:

Spending approach (very Output approach Income approach

common approach)

Summing up all the spending Summing up all the output Summing up all the income
inside the economy produced by all sectors inside generated inside the economy.
the economy For example: wages and salaries
+ interest to lenders + profits
taken by entrepreneurs.

Spending is made by four main sectors:

GDP = C + I + G + (X – M)

Households Government spending

Investment spending Exports - imports

1. Households (C):
Spending on consumption products like
- Durable goods
- Non-durable goods
- Services

It represents 60 % of the overall spending inside the economy. This sector is called the engine of
the economy.

2. Investment spending (I):

“Private investment sector”

It spends on capital equipment and machinery.

3. Government spending (G):

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Wages and Salaries Consumption spending Investment spending

Meals for military, stationary For example: education and

for employees …. health

Note: all of this spending is made in exchange for a good or service, so it is included in the GDP.
However, there is part of Government spending that is excluded from the GDP like:
- Transfer payments All of this spending is made without getting a service or good
- Unemployment benefits (in other terms “no actual production”) back in return. It is
- Welfare benefits made as part of the government’s “Social responsibility”.
- Pension benefits
4. Net exports (X – M ):
X > M High GDP ü

X < M Low GDP û

The Higher the contribution of the industry to the GDP, the greater its impact on the economy.

Industry analysis:

1. GDP (Covered last class)

2. Economic growth rate (Covered last class)
3. Inflation
- It is defined as a consistent increase in the general price level through which money
losses its purchasing power.
- The rate of inflation is measured through consumer price index “CPI”: it is a measure
that examines the weighted average of prices of a basket of consumer goods and
services, such as transportation, food and medical care. It is calculated by
taking price changes for each item in the predetermined basket of goods and averaging
them.

The coming table is excluded from the exam, it is just for your own understanding:

Item Name Weight Price change Weighted price change

= weight x price
change

Food 45 %

Transportation

Health

Education 10 %

Total 100 %

- The higher the weight in the spending patterns, the higher the cost of living.
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“Higher weight, higher prices, higher cost of living”

𝐶𝑃𝐼 2019 − 𝐶𝑃𝐼 2018

𝑅𝑎𝑡𝑒 𝑜𝑓 𝑖𝑛𝑓𝑙𝑎𝑡𝑖𝑜𝑛 = ∗ 100
𝐶𝑃𝐼 2018

+ve value -ve value

Inflation - Deflation
- Money has higher purchasing
power

- Deflation in general is not a desirable phenomenon. No economy can grow without inflation.
§ During deflation (Period of recession/ bad deflation):
o Demand decrease
o Leads to excess supply
o Prices decrease
§ Good deflation: it is the period where the rate of increase in the production capacity is higher
than the rate of increase in demand, which leads to a lower price level (But both demand and
production are increasing, but not on the same pace).

- Hyperinflation: an inflation rate with a double digit or three digit. Prices almost change per hour.
§ Hyperinflation happens in case of printing money at an increasing rate that is not matching
the rate of increase in production and output.
§ How to deal during this period (Solution):
Barter system Replace domestic currency

People exchange services and goods for other Replace domestic currency with a foreign
services and goods in return. currency like Lebanon

- Notes:
Healthy Range of inflation

Developed economies Developing economies

1 % to 3 % 7 % to 10 %

Justification: developed economies reached Justification: developing economies still have

to the maximum utilization of resources unutilized resources

- Major causes of inflation?
§ In terms of theory there are two major causes of inflation:
AD (Aggregate demand) = GDP = C + I + G + (X – M)

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1. Demand pull inflation: when the AD increase at a higher growth rate compared to
the rate of increase in the level of output. This leads to a higher price level.
In Egypt the major reason for demand pull inflation is “C” (irrational Consumption
spending)
“High consumption, high GDP, Low unemployment rate”
2. Cost push inflation: when the price of raw materials increase, the cost of production
increase, the supply of output decrease, so the rate of inflation increase, and the
unemployment level increase.
In Egypt the major reason for Cost push inflation is “Currency devaluation”. And this
phenomena is known as Stagflation.
Stagflation is defined as persistent high inflation combined with high unemployment
and stagnant demand in a country's economy.
“High cost of production, low supply of output, high inflation rate, high
unemployment rate”
- Countries should have a balanced economy. They should never over depend on specific sectors
as primary source of economic growth and foreign currency. For example, Egypt over depended
on Tourism and Suez Canal as a primary source for foreign currency, so after the revolution and
instability in the political status and devaluation in Egyptian pound, the country faced severe
issues.
- Causes of inflation in the Egyptian economy?
§ Currency devaluation
§ Monopoly
§ Absence of regulations
§ Corruption
§ Built in inflation
- Disinflation: it happens when the cost of inflation is increasing at a decreasing rate. Meaning that
the government is adopting polices to limit the increase in prices in the economy.
Year Rate of inflation

2017 33 %

2018 25 %

2019 17 %

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- What are the measurement techniques of inflation?
Headline CPI ‫اﻟﻣؤﺷر اﻷﺳﺎﺳﻲ‬
Core CPI ‫ < اﻟﻣؤﺷر اﻟﺟوھري ﻟﻠﺗﺿﺧم‬ ‫ﻟﻠﺗﺿﺧم‬

Used/issued by Central Bank of Egypt CAPMAS

Measurement Represent a basket of all

techniques Exclude volatile goods like vegetables goods and services purchased
by average consumer.

Comment More healthy, accurate and stable rate Overestimate the rate of
of inflation inflation

- What are the consequences of inflation?

§ Decline in the purchasing power of money
§ Lack of confidence and uncertainty is high
§ Firms will tend to relocate from real investment to investment in gold and foreign
currency.
§ Redistribute the income from one group to another.
§ Shoe leather cost: The cost, in time and energy, of efforts intended to counteract the
effects of inflation. People search for the highest possible rate of return on their savings.

Talking about the highest possible rate of return. We have to differentiate between the nominal interest
rate and real interest rate

- Nominal interest rate is the rate given by banks = Real interest rate for giving up the current
consumption + expected inflation rate.
NIR = RIR + expected inflation
RIR = NIR – expected inflation
I.e. Real interest rate represent the actual increase in your money value as a saver.
Borrowers (banks ) are winners

Lenders (savers) are losers

Inflation Rate > NIR Justification: Because the lenders takes his
money back at a lower value (lower
purchasing power)

Employer (company) is a winner

Inflation Rate > Rate of increase in salaries Employees (losers)

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4. Forex

Price of
EGP/SDR S by Egyptians
Who supplies EGP?

3.75

Who demands EGP?

D by Saudis

Quantity of EGP

Who buys EGP Who sell EGP

1. Exporters 1. Importers
2. Foreign students 2. Patients
3. Tourists 3. Students
4. Multinational companies 4. Investors
5. Transfer of profits to Egypt from 5. Speculators
abroad
6. Speculators

There are three exchange rate systems:

A. Fixed system
The central bank and the government fix the value of its domestic currency in terms of
another foreign currency and this happens through two ways as follows
Direct intervention Indirect intervention

By selling and buying foreign reserve By changing the interest rate to attract
the inflow of hot money (Higher interest
rate)

We have to differentiate between two concepts here:

§ Revaluation: when the CB decides to increase the value of its currency in terms
of another currency
§ Devaluation: to weaken the value of domestic currency in terms of another
currency
- Advantages of this system:
FDI have certainty about the economy in terms of exchange rate.
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- disadvantages of this system:
1. The country should have enough reserve in order not to drain the economic resources.
2. Interest rate serves the exchange rate, which is a bad indication. IR should stimulate the
economy instead.

B. Floating
Value of the currency will be determined according to the forces of supply and demand
(without any government intervention)

We have to differentiate between two concepts here:

Appreciation: when the CB decides to increase the value of its currency in terms
§
of another currency
§ Depreciation: to weaken the value of domestic currency in terms of another
currency
- Advantages of this system:
Is to overcome the disadvantages of the “fixed system”
C. Managed floating: something in between the fixed and the floating system. Meaning that
the exchange rate should not exceed or go below certain limit.
5. Macroeconomic policy

Notes:

¾ Horizontal integration: acquisition or merge.

¾ Vertical integration: backward and forward integration.

General questions:

1. Classify sectors:
Sectors could be classified as
¾ primary sector
¾ Secondary sector
¾ Tertiary sector
Or it could be classified as
¾ Public sector
¾ Private sector
2. Real purchasing power is highly influenced by inflation rate and price level
3. One of the reasons of stagflation is devaluation
4. What is the difference between devaluation and depreciation?

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