Stock and Industry

The first step in the top-down approach to stock valuation is analyzing the position of the industry in its life cycle. Answer: False F 6. Industry life cycles measure the growth path of an industry through five stages. Answer: True F 7. Industry life cycles predict an industry’s sensitivity to the economy. Answer: False 2. The method of starting the stock valuation process with an analysis of the economy is referred to as the “bottom-up” approach. 3.

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The method that starts the stock valuation process with an economic analysis is allied the “top-down” approach. 4. Investors who follow the bottom-up approach to stock valuation are referred to as “industry-analysts” 5. The last step to the top-down approach is to analyze the overall health of the economy. 8. The life cycle curve in Chapter 6 is graphed so that the steeper the slope of the line the faster the growth rate of the industry. 9. The more saturated an industry gets with competitors, the further along the life cycle it will probably be. F 10.

Firms in the development stage are typically publicly owned. Answer: False F 11 . Firms in the development stage finance their growth from internal cash flows. F 12. A frequent source of capital for profitable Stage I companies is venture capitalists. Answer: True F 13. Due to intense needs for capital to fund growth, Stage I companies rarely pay F 14. Stock dividends are used to signal to investors that a company is not making any profits to distribute. F 15. The presence of cash dividends increases the ability of some institutional investors to invest in companies.

F 16. The crossover point on the life cycle curve is the point where companies sell tock in an initial public offering (PIP). F 17. Stock prices increase as companies reach the crossover point, since the company’s earnings are now more predictable. F 18. Stock prices plummet as industries move across the crossover point, because price-earnings ratios collapse as analysts lower growth expectations. Answer: True 78 F 19. An industry reaches the maturity stage when its sales growth matches the rate of growth of the economy. F 20.

The S&P 500 Index and Gross Domestic Product (GAP) seems to have similar long-term growth paths. F 21 . Comparing automobile sales to GAP shows that GAP seems to be more volatile than automobile sales. F 22. When we regress automobile sales against GAP data, we find a high correlation between the two and a cyclical trend-line of automobile sales around the least squares trending. F 23. The growth rate of the companies that make up the S&P 500 is an excellent proxy for the growth of mature companies. F 24. Companies in mature industries still have a dramatic need for internal cash flows to finance future growth.

F 25. Industries in the decline stage suffer from shrinking sales because product innovation has not increased the product base over the years. Answer: True F 26. Dividend payout ratios in declining industries can often reach 100 percent of earnings. F 27. One way of maintaining growth when domestic markets have become saturated is to expand into markets overseas. F 28. If an industry is in the mature phase, this means that all companies in that industry will also be in the mature phase. F 29. It is always a safe bet to invest in companies in growing industries. Answer: False F 30.

Analyzing the structure of an industry can help an investor to determine the reparability of the companies in that industry. F 31 . The structure of competition of an industry, and how freely companies can compete with each other, is irrelevant for the analysis of companies. Answer: False F 32. Oligopolies industries are characterized by many competitors and few barriers to entry. F 33. Competition can be intense in oligopolies, due to price wars and international competition. F 34. Pure competition in manufacturing is common in the United States. Answer: F 35.

Companies that do not have a differentiated product and compete on price are robbery in purely competitive industries. F 36. When monopolies exist, they are almost always found in mature industries. F 37. Ascertaining the competitive structure of an industry can help the analyst to determine the long-term profitability and outlook for that industry. Answer: True F 38. The lack of barriers to entry tends to help established firms by giving them power to increase prices and profits. F 39. Firms in industries with low barriers to entry are limited in their ability to raise prices.

F 40. Firms are most able to raise prices on products for which many substitute goods exist. F 41 . The impact of intense rivalry within industries is similar to the threat of new entrants. F 42. The relative importance of each of the five basic competitive forces is the same for almost every industry. F 43. Competitive strategies of individual firms do not have an impact on the outlook F 44. Companies that have a strong ability to control suppliers enjoy a competitive advantage. F 45. Firms such as Walter and McDonald’s have a low level of bargaining power over their suppliers.

F 46. Competitive strategies of individual firms have an immediate impact on the Truckee of the industry. 81 F 47. Intense rivalry between competitors has a different impact on the competitors than a new entrant in the market. F 48. Porter’s five competitive forces vary from industry to industry and directly affect the return on assets and return on equity. F 49. Analysis of various industries gives the investor insights into the comparative performance of the entire economy. F 50. Most industries are similarly affected by the cyclical swings in the economy. F 51 .

When analyzing an industry, individual companies seem to stand out for their period performance. F 52. When studying an industry, it is difficult to determine the best and worst performing companies in that industry. F 53. Companies with consistently high returns on equity usually are highly leveraged to take advantage of the large profit margins. F 54. Rotational investing is defined as the process by which investors rotate out of losing stocks and into new stocks. F 55. Rotational investors study the business cycle and invest in companies that are likely to benefit from the predicted movements of the economy.

F 56. Different industries react similarly to changes in the business cycle. Answer: 82 F 57. Investors should buy consumer non-cyclical stocks in the early stages of recovery. Answer: False happen. F 59. In the final stages of the business cycle, rotational investors will purchase basic materials and energy stocks. F 60. Mature industries are not likely to be sensitive to short-term swings in the business cycle. F 61 . A Stage II industry is one that is growing and thus provides opportunities without much risk. F 62. Growth firms generally pay higher cash dividends than mature firms. Answer: F 63.

It is almost always unwise to invest in an industry which is entering stage Ill of the industry life cycle. F 64. A technically innovative firm in a mature industry may provide better growth opportunities than a high-growth industry. Multiple Choice Questions 65. When analyzing the structure of an industry, which of the following factors is particular to the company only? B) Barriers to entry C) Product quality D) All of the above affect industry structure Answer: C 66. A rotational investor will rotate through stocks that perform well in different takes of the economy in which order (from trough to peak)?