Economic theory states that and not using a monopoly position and barriers to entry, an organization’s competitive advantage in an industry will diminish and its profits will fall to zero over time.
While that is just economic theory, it raises some interesting questions: Does an organization’s competitive advantage last more in some industries than in others? And if that’s the case, wherein industries does the competitive advantage are inclined to be most sustainable?
To answer these questions, we examined all initial public offerings (IPOs) on the NYSE and NASDAQ over the past 30 years and tracked each company’s performance after their IPO. We tracked how a given company’s profitability modified as much as a decade after its IPO by its margins: earnings before taxes (EBT), operating profit, net profit, and gross profit.
We calculated how an organization’s margins change over time by measuring the difference between a given 12 months’s margins and people of the corporate’s IPO. We used the industry median difference to represent the whole sector.
Although margins and profitability aren’t perfect indicators of competitive advantage, they do provide insight into changes and developments in an organization’s position in its industry. If a brand new entrant has a singular, in-demand product based on unique mental property, it’ll likely have high profits and margins when it goes public. If other firms attempt to catch up and duplicate or improve its product, the brand new entrant’s margins will decline as its competitive advantage within the industry wanes.
The first striking results of our evaluation is the heterogeneity of changes in corporate profitability across industries. For example, the typical aerospace and defense company experienced a 0.04 percentage point decline in EBT margin between 12 months 0 (the 12 months of its IPO) and 12 months 9. However, the typical biotechnology company’s EBT margin declined by 2.95 percentage points over the identical period.
Nine years after the IPO: What has modified?
| EBT margin | Gross margin | Net margin | Operating margin | |
| Aerospace and Defense | -0.04% | 0.45% | 0.49% | 0.10% |
| Agriculture | -2.07% | -2.60% | -0.69% | -1.75% |
| Clothing manufacturing | -1.28% | 2.61% | -1.08% | -1.87% |
| Clothing retail | 2.10% | 1.02% | 1.31% | -1.21% |
| Asset management | -0.74% | -0.29% | 0.32% | -3.05% |
| biotechnology | -2.95% | -7.99% | -1.10% | -4.11% |
| beverages | -0.02% | 5.46% | -1.31% | 1.30% |
| Building material | -0.85% | 0.91% | -0.20% | 0.23% |
| Chemicals | 0.36% | 4.13% | 1.88% | 2.32% |
| Communication equipment | -1.05% | 0.86% | 0.75% | -2.41% |
| Computer hardware | -7.63% | -2.45% | -1.32% | -8.50% |
| Electronic components | -1.20% | -0.37% | -0.41% | -3.83% |
| Engineering and construction | -1.16% | -5.43% | -1.08% | -1.71% |
| Agriculture | -1.80% | -0.83% | -0.90% | -0.17% |
| Information technology | 0.23% | -3.55% | 2.04% | -1.30% |
| Leisure time | -1.74% | -2.49% | -1.34% | -3.98% |
| Medical care | -0.16% | -3.92% | 3.55% | -0.43% |
| Medical equipment | 0.71% | 5.72% | 2.79% | 0.48% |
| oil and gas | -0.26% | -2.14% | 2.47% | 0.17% |
| Packaged foods | 1.26% | 2.73% | 0.88% | 1.11% |
| Restaurants | -0.18% | -2.51% | 0.05% | -0.44% |
| semiconductor | -4.56% | -1.07% | 0.82% | -2.10% |
| software | 0.23% | 5.66% | 4.29% | 4.14% |
| telecommunications | -2.93% | -4.55% | 2.55% | 0.44% |
| Tools | -6.22% | -5.21% | 0.06% | 0.02% |
In fact, computer hardware and biotechnology are the 2 industries with the best declines in competitive advantage when all 4 margin measures are taken under consideration. The average computer hardware company’s gross margin declined by 2.45 percentage points within the nine years following its IPO. The average biotechnology company’s gross margin declined by 7.99 percentage points over the identical period.
The performance in the pc hardware sector is especially surprising considering how well Apple has been able to keep up its high margins through the years: Apple’s gross margins have increased significantly and net margins have greater than doubled, from 10% in 2005 to 21% in 2020.
At the opposite end of the spectrum, pharmaceutical manufacturers and entertainment are the 2 sectors with the best competitive benefits after going public. The average pharmaceutical company’s gross margins increased by 6.03 percentage points within the nine years following the IPO, while the typical entertainment company’s margins increased by 1.19 percentage points.
To gain deeper insights into the evolution of those margins after IPOs, we focused on two of the more extreme industries – computer hardware and pharmaceutical manufacturing – and the change of their firms’ average margins after IPOs.
Average performance of computer hardware firms after IPO
Average performance of pharmaceutical firms after IPO
In summary, our results suggest that almost all firms’ margins decline by one percentage point within the nine years following their IPO. However, in some industries—similar to software, entertainment, and pharmaceutical manufacturing—the typical company actually improves its margins through the years.
What explains this “get better with age” phenomenon? It might be the results of cost calculations, regulatory lobbying, the strength of an organization’s mental property, a mix of each, or something else entirely. More research is required to find out which is true.
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Photo credit: ©Getty Images / Ryan McVay
