Industry profits are low but downsized capacity remains

Symptom: The industry continues to see overcapacity because larger competitors continue to expand aggressively despite the low margin environment. Even as some competitors are forced to downsize, their productive capacity is quickly snapped up by healthier companies.

Implications for the market:

• These tough market conditions are likely to last for some time, and they may get worse.

  • Competitors in any hostile industry will continue to expand their capacity on the basis of marginal returns rather than on full cost returns. If they can sell the additional volume, they will add capacity to produce it.

  • In most hostile industries, marginal returns on the less expensive forms of capacity growth remain attractive throughout the period of hostility. Even if major capital investments are delayed, learning curve and debottlenecking improvements, such as better equipment allocation and more efficient scheduling, continue to result in capacity additions throughout the period of hostility.

  • Enough competitors usually find marginal growth sufficiently attractive to bring capacity on as fast or faster than demand grows. The result is continued or even intensified pressure on margins.

• An end to the capacity additions, or even a reduction in capacity, would not necessarily end hostility. Industries are rarely rescued from hostility by reductions in capacity because productive capacity is almost always recycled. Usually, demand must grow an industry out of hostility.