An equity analyst follows two industries with the following characteristics:
Industry 1 :
A few companies with proprietary technologies, products with unique features, high switching costs, and minimal regulatory influences.
Industrv 2:
A few companies producing relatively similar products, sales varying with disposable income and employment levels, high capital costs and investment in physical plants, rapid shifts in market shares of competing firms, and minimal regulatory influences.
Based on the above information, the analyst will most appropriately conclude that, compared with the firms in Industry 2, those in Industry 1 would potentially have:
The economic profit (the spread between the return on invested capital and the cost of capital) tends to be larger in industries with differentiated products, greater pricing power, and high switching costs to customers. Industry 1 has these features. In contrast, firms in Industry 2 have little pricing power (undifferentiated products and rapid shifts in market shares, indicating intense rivalry), which is indicative of potentially smaller economic profits.