[IMGCAP(1)]Certain industries in which clients operate increase an accountant’s risk exposure, and those with high risk scores are especially precarious.
IBISWorld uses multiple factors, such as industry drivers and revenue projections, to compile a risk score, which reflects the level of difficulty a company encounters within its industry. IBISWorld’s risk scores also incorporate an industry’s life cycle.
Client industries in the decline stage of their life cycles are risky. With decreasing sales and limited opportunities for product innovation, most firms at this stage are forced to exit their industry. At the same time, accountants must be wary of client industries comprised of cost structures that have high “other costs” allotments. Because they serve as a black box, too many listings categorized as “other costs” make it difficult for accountants to validate a firm’s financial statements. Such ambiguity increases the likelihood of statements being improperly presented.
For tax season, IBISWorld has identified today’s riskiest client industries for accountants:
10. Office Stationery Manufacturing: This industry includes products like envelopes, letters and file folders. Although the industry has introduced upgraded versions of basic products like paper, it has failed to overcome its life cycle decline. The recession especially hindered the industry as consumers significantly reduced purchases. Revenue has grown since the end of the recession; the growth, however, has not helped profit, which has fallen over the past five years due to unstable demand conditions, growing input prices and difficulty in passing rising costs on to customers. Together, Cenveo Inc., MeadWestvaco Corporation and the National Envelope Corporation comprise about one-third of industry market share.
9. Business Service Centers: Revenue and the number of players in this industry have been falling since 2006. A high level of competition from similar industries like quick printing and online services has been instrumental to declining or otherwise flat revenue growth. Downward trends in revenue have caused firms to merge, consolidate or exit the industry. While cost structures of industry firms differ based on factors like size, almost one-fourth of costs are categorized as “other.” Major industry firms include United Parcel Service of America, Inc. and the United States Postal Service.
8. Photofinishing: The Photofinishing industry develops digital and film images to produce slides, prints and backup copies in digital or film form. The predominant use of digital cameras, smart phones and online sharing sites like Shutterfly has depressed industry revenue: in 2012, revenue is expected to decrease 5.3%. Like revenue, the number of enterprises has declined, with major player Eastman Kodak Company filing for chapter 11 bankruptcy in January 2012 and former major player Ritz Camera Centers having filed for bankruptcy in 2009. Profit margins also have tightened as input costs (i.e. ink and paper) have risen. Kodak, Ritz Camera and Fujifilm Holdings Corporation are the major players in this industry.
7. Vacuum, Fan and Small Household Appliance Manufacturing: Rising import penetration of less expensive Chinese goods has caused US sales to fall. Although US manufacturers have responded by offshoring production facilities, the strategy has failed to overcome Chinese imports, which have forced US manufacturers to reduce selling prices. Combined with volatile prices of key inputs like steel and plastic, the industry is experiencing declining profit. These drops in profit combined with declines in revenue have required companies to merge or exit the industry altogether. Major companies include Jarden Corporation (JAH), Whirlpool Corporation, Electrolux USA and Spectrum Brands Holdings, Inc.
6. Movie Theaters: Although revenue and profit are slowly increasing for the Movie Theaters industry, it is facing growing competition from substitute services like Internet-delivered movies and television networks’ video-on-demand services. In addition, rising ticket prices, rather than increasing attendance, are driving revenue and profit expansion. Such trends have forced industry consolidation. In 2009, major player AMC Entertainment Inc. acquired Kerasotes ShowPlace Theatres, LLC, which operated 95 theaters and 972 screens in the Midwest. Another major player, Regal Entertainment Group, acquired eight theaters from AMC in 2010. Regal Entertainment Group, AMC Entertainment Inc. and Cinemark Holdings Inc. are the industry’s major players.
5. Art and Office Supply Manufacturing: With the ubiquity of electronic communication ranging from e-mail to text messaging, the Art and Office Supply Manufacturing industry has been experiencing declining sales for the past five years. Previously strong buying markets, such as students and businesses, are contracting as these consumers seek out substitute goods in the form of electronics. Decreasing demand, coupled with limited product innovation, has forced many companies to consolidate, diversify or exit the industry. The industry, which is in the declining stage of its life cycle, has more than 33.0% of costs categorized as “other,” while purchases and wages account for the other two-thirds. Major players include, Newell Rubbermaid Inc., ACCO Brands Corporation, Stampin’ Up! Inc. and Dixon Ticonderoga Company.
4. Wired Telecommunications Carriers: Direct-communication services have been all but replaced by wireless technologies. The industry, which has almost insurmountable competition from cable television and mobile-internet providers, has endured declining sales over the past five years, a trend that is sure to continue into the foreseeable future. Declining sales have resulted in major acquisitions and mergers, including regional phone provider CenturyLink’s merger with Qwest Communications in April 2011. Three companies—AT&T Inc., Verizon Communications Inc. and CenturyLink, Inc.—make up more than 75.0% of industry market share.
3. Mail Order: Mail-order selling or direct marketing relies on mail catalogs and television programs to sell merchandise. The advent of e-commerce websites has created a substantial external competitor, which has encroached on industry revenue. At the same time, price hikes on coated paper and postage increased production and delivery expenses, hindering profit. Limited product innovation has further propelled the industry into a declining life cycle. Key industry firms include Liberty Media Corporation; HSN, Inc.; Guthy-Renker LLC; Victoria’s Secret Direct, LLC; and L.L. Bean, Inc.
2. Money Market and Other Banking: The recession severely hindered the industry: In 2008 and 2009, revenue decreased by a combined 68.5 percent. The industry, comprising banks that make small loans to industrial workers and private banks, has experienced ongoing revenue declines, which have led to consolidation. While many industrial banks have converted into commercial banking structures to receive government assistance, including Troubled Asset Relief Program (TARP) funds, others have closed. Merrill Lynch Bank USA, American Express Centurion Bank and UBS AG make up the industry’s major players.
1. Recordable Media Manufacturing: Recordable media is on pace to be replaced by digital media, including online streaming options. Product innovations like the 2008 introduction of Blu-ray players have not helped the declining industry. Responding to declining revenue and profit erosions, industry players have stopped production entirely or cut costs through consolidation and offshoring. The industry is highly fragmented, with companies like Cinram Manufacturing, Zomax Inc. and Sony Corporation of America controlling less than 10.0% of market share.
Several themes emerge from these industries. While many of them are plagued by technology replacement, others are experiencing decline due to import competition and changing consumer preferences. Also, each industry, except Photofinishing, has high “other costs,” a categorization that increases the chance of financials being misstated. Keys to mitigating risk in today’s environment is anticipating such market trends and reacting accordingly.
Radia Amari is an industry analyst at IBISWorld.