To trade well it is not sufficient to understand the balance sheet and finances of a company. It is not even sufficient to understand how a company may have performed in the past. To trade well it is important to be able to look into the future.

One of the things which good analysts look at is something called ‘Competition Structure’. This means understanding the forces of competition affecting a company and how that may change in the future for the better or worse. The investment community generally breaks these forces down into: ‘threat of substitute products’, ‘threat of new competitors’, ‘intensity of competitive rivalry’, ‘bargaining power of customers’ and ‘bargaining power of suppliers’. You can read more about that all here.

Entire books have been written about the so-called “five forces of competition” and there is already a lot on the web about this subject so I’m not going to repeat all that. Instead I will summarise a quick method for performing a similar analysis to help you come up with your own view of whether the company you like will continue to grow or not.

1. Sketch out the supply chain. This means understanding what goes on from start to finish in the production process.

Let’s take palm oil for example: In this industry there are upstream producers who grow and harvest the stuff, then there are downstream producers who operate the mills to process the fruit and then there are exporters and finally customers who buy it.

2. Figure out where your company fits into the supply chain. Sime Darby for example, owns plantations and mills and can be considered an upstream and downstream producer. CB Industrial however, supplies equipment for mills and can thus be classed as a downstream operator.

3. Understand the most important factors which will affect these forces. This is actually the hardest and most important part. A textbook example of this would be how IBM in the 80’s opened up its computer architecture to third parties and found itself having to compete against Intel for processors and Microsoft for the operating system, whilst Apple in contrast has kept its architecture pretty much under its own control and has not suffered in the same way. By trying to drive down its own costs, IBM inadvertently increased the threat of substitute products in its own industry and managed to decrease its own growth in an industry which was itself still growing.

In the context of palm oil, the main factors affecting competition are a) supply of land and b) customer preference. Diminishing availability of agricultural land on the peninsula has meant that planting has shifted to Sarawak and further to Indonesia. Also environmental concerns are prompting more and more customers to source palm oil from plantations that “have not been established at the expense of tropical forests”. And finally, there is of course the possibility that palm oil can be used as biofuel, which opens up an entirely new market.

4. Identify the industry life cycle. The life cycle of an industry can be split into several phases - pioneering, growth, maturity and decline (You can read more about it here). Green energy, for instance is in the pioneering phase, whereas the fashion retail business is in its maturity phase.

The palm oil industry, which began in Malaysia almost a century ago has created fortunes and allowed companies such as Sime Darby to diversify into property development, manufacturing etc. Therefore it can be regarded as an industry in its maturity phase. However, with the growth of demand for agricultural oils from India and China and the possibilities over biofuel, there is the possibility that a new phase of growth has occurred, much like the same situation regarding oil and energy. This helps explain the recent correlation which palm oil prices have had to energy commodities such as oil.

It is hoped that these four steps will help impose some structure into your analysis!