FINANCIAL INFORMATION ANALYSIS
Business Policy Analysis

Application Exercises

Question 3
One of the fastest growing industries is the memory chip industry, which supplies memory chips for personal computers and other electronic devices. Yet the average profitability has been very low. Using the industry analysis framework, list all the potential factors that might explain this apparent contradiction.

Concentration and Balance of Competitors
• The concentration of the memory chip market is relatively low;
• There are many players competing on a global basis, none of which has a dominant share of the market;
==> Frequent price wars as individual firms lower prices to gain market share;

Degree of differentiation and Switching Costs
• In general, memory chips are a commodity product characterized by little product differentiation;
• While some product differentiation occurs as chip makers squeeze more memory on a single chip or design specific memory chips to meet manufacturers’ specific power and/or size requirements, these differences are typically short-lived and have not significantly reduced the level of competition within the industry;
• Because memory chips are typically interchangeable, switching costs for users of memory chips are very low, encouraging buyers to look for the lowest price for memory chips;

Scale/Learning Economies and the Ratio of Fixed to Variable Costs
• Scale and learning economies are both important to the memory chip market;
• Memory chip production requires significant investment in clean production environments
• Moreover, the yield of acceptable chips goes up as employees learn the intricacies of the extremely complicated and sensitive manufacturing process;
• Finally, whereas investments in memory chip manufacturing plants are typically very high, the variable costs of materials and labor are relatively