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The information industry: a new portrait.

The Information Industry: A New Portrait

WHEN MANY PEOPLE think information, they think IBM or AT&T. Together, these two firms constitute 20 percent of the information industry. However, at the other end of the spectrum, an estimated 25,000 software firms are located in the United States. Revenues of these firms add up to 10 percent of the industry. The industry is fragmented, but large firms are found in each submarket.

Industry submarkets include newspapers, telephone services, economic data, cable television, electronic mail, personal computers, private networks, software, and electronic funds transfer. The information industry, as defined in this paper, consists of arranging products and services in terms of how they help to create, move, and use information. The three sectors add up to an estimated $400 billion at the end of 1987. The overall growth rate is 10 percent annually, but information submarkets range from those in decline to others that are expanding more than 30 percent annually.

The purpose of this paper is to present a new segmentation of the industry. A framework is used to define it, measure it, and evaluate it. Some firms are actively participating, while others are constrained from realizing their full potential. A portrait of the industry starts with the framework.

FRAMING THE INFORMATION INDUSTRY

In order to understand some of the changes occuring in the industry, a framework is constructed of three sectors: create, move, and use information. The create information sector includes such submarkets as newspapers, periodicals, market research, online databases, libraries, directories, economic and financial data. Companies in this sector include Dow Jones, Gannett, Dun & Bradstreet, IBM, and Xerox.

The move sector includes submarkets such as broadcast television, cable television, radio, local and long distance telephone services, private networks, cellular telephone services, and communication equipment. Capital Cities/ABC, CBS, AT&T, Bell Atlantic, GTE, MCI and United Telecom are some of the firms providing services in this sector.

The use information sector includes key applications such as videotex, voice mail, electronic mail, interactive services, electronic funds transfer services, transaction processing, consumer electronics, and computer hardware. Microsoft, Sun, Tandem, General Electric, McDonnell Douglas, Apple, Wang, Ashton-Tate, IBM, AT&T and Digital Equipment Corporation operate in this sector.

Many other definitions of the information industry exist. For example, the Information Industry Association publishes an annual Information Industry Factbook; the Department of Commerce publishes many sectors in its annual U.S. Industrial Outlook; numerous other definitions have been published by Harvard University, Gartner Group, International Resource Development, Booz Allen & Hamilton, Index Group, SRI International, Link, International Data Corporation, Hambrecht & Quist, Department of Justice (Huber Report), and the National Telecommunications and Information Administration. Much good information can be gleaned from these studies.

Executives in a major information firm rejected traditional definitions of the industry because existing definitions lacked suitable customer orientation and consistent quantification of key submarkets. This version was accepted as a useful map from which they could develop new directions. Three information needs of key customers were identified: to create, to move and to use information.

Create, Move and Use Information

In the use information sector, the application itself frequently creates new information that is then packaged, transmitted and sold again in new form. One example is the airline industry, which creates information about seating, pricing, and schedules that is transmitted over private networks to travel agents who provide such information to potential travelers who make decisions about flights and destinations. The resulting trip creates a record of useful information to be used again by all three sectors: market researchers, telecommunication network planners, and credit card authorizers. The process repeats: Create - Move - Use - Create - Move. Thus, information flows can develop important opportunities for firms to participate in any one sector or across sectors.

MEASURING THE INFORMATION INDUSTRY

The industry consists of over forty submarkets, twenty of which comprise 75 percent of total sales. Table 1 below provides a representation of the submarkets arranged in terms of their estimated 1987 sales volume. For example, local telephone service accounted for $65 billion and it represented the largest submarket, or 16 percent of the overall industry. The local telephone submarkets includes local telephone services, intralata toll, and access. Intralata submarkets include sales for calls within a LATA (local access transport area). There are 160 such geographic regions. The intent of this analysis is not to provide precise statistical data for the information industry, because there are as many revenue estimates as there are studies. Rather, it is to provide an approximate measure of market size accepted by a majority of users in a corporation.

Table : Table 1 Information Industry Portrait
CREATE MOVE USE
Information Information Information
Submarkets Submarkets Submarkets
9 smaller. 7 smaller. Move submarkets. 6 smaller. Use submarkets.
 Create Broadcast radio Software
submarkets. Customer Comm. Eq. Micros PC's
 Printers Broadcast TV DP Services


Directories
 Books Long Distance DP Maintenance

 telephone service
Magazines Consumer
 Electronics
 Local Minis
 telephone service
Newspapers Mainframes


Note: Submarkets are shown by size and customer need. The create information sector is estimated at approximately $105 billion, growing at 9 percent annually. The move sector is about $157 billion, but growing at a slower 7 percent annual rate, while the use sector reached the $143 billion mark in 1987, expanding at a 14 percent rate. The move and use sectors are expected to reach size parity by the end of 1989 if present growth rates are sustained. Smaller submarkets, shown as "7 smaller submarkets" for example, have high growth rates presently.

The total table equals 100 percent of industry revenues for the year 1987. The move sector is the largest (39 percent of revenues) for that year, followed by the use (35 percent) and create (26 percent) sectors.

Submarkets used in this analysis are shown in

[Tabular Data Omitted]

EVALUATING THE INFORMATION INDUSTRY

Regional Holding Companies - New Entrants

The Regional Holding Companies (RHCs) are relatively new entrants into the information industry. RHCs include regulated telephone operations and nonregulated businesses. After the 1984 divestiture from AT&T, seven Regional Bell Operating Companies (RBOCs) were formed with a combined total of $58.6 billion in local telephone revenues in 1987.

Since 1984, the RHCs diversified from local telephone services into other submarkets. A successful submarket for these firms has been the $1.3 billion cellular mobile communications business. The firms now rank among the top ten largest cellular operators in the nation with Pacific Telesis, Southwestern Bell, and BellSouth in the largest five.

These firms also have ventured into retailing services of the $11 billion customer premise equipment market, the $4.4 billion telephone and specialized directory market, and a small participation in the $11 billion software market, primarily communications software. The local directory market has been profitable for the regional holding companies. BellSouth recently acquired L.M. Berry Company, a national directory firm. Diversification into higher growth submarkets is an attempt to reduce dependence on the larger but slower growth and highly regulated, local telephone submarket.

Government Regulation of U.S.

Telephone Services

A major stubling block for telephone service providers, in the move sector, is the significant federal, state, and local regulations and judicial actions with which they must cope, unlike other providers in the move, create and use sectors. These barriers have limited the ability of the regulated providers, in the move sector, to enter into other promising submarkets, while most other participants in the information industry have been able to move quickly into new sectors, frequently establishing early major positions. For example, the RHCs have not been as successful as firms in the airline industry who entered early into several key information submarkets.

Computerized Reservation Systems - Established

Players

While American Airlines is a major player in the airline industry, its Sabre computerized reservation system is deeply rooted in the information industry. Drawing upon information created in online databases, Sabre transmits as many as 65 million messages a day across its own private networks to be processed in mainframes in Tulsa, Oklahoma, and subsequently sent out to 11,000 travel agent's personal computers. Sabre has grown to 1,100 employees in a $500 million business developed since entering into key submarkets during the past ten years. In February 1989, American and Delta Airlines agreed to form an independent global agency reservation systems based on Sabre. The partners effectively placed a value of $2 billion on the new firm.

Some of the submarkets linked together in the Sabre system include online databases, private networks, software, microcomputers, data processing services, and mainframes. The Sabre system also provides information to other airline reservation systems as well as access to a host of nonairline users such as travel agents, telex systems, cruise lines, car rental systems, and hotel systems. Sabre and other computerized reservation systems, such as System One of Texas Air, PARS of TWA and Northwest, and Apollo/Covia of United Airlines, participate in the $6 billion private network submarket and in the $3 billion online database submarket.

Firms such as these combine proprietary databases, dedicated networks, and applications to key users to take advantage of profitable submarkets. For example, a Department of Transportation study estimates that the Sabre system made a profit of $178 million in 1986 achieving a 76 percent rate of return on its investment. United Airlines' Apollo systems made a profit of $136 million in 1986 realizing a 52 percent return on its investment. Competing systems net profit margins range from 20 to 40 percent.

Economies of scale have been significant in expanding the market for airline reservation systems. At the end of 1987, 95 percent of U.S. travel agencies used airline reservation systems, according to a Louis Harris survey published in Travel Weekly. Since these systems were first available in 1976, they have grown to a 69 percent penetration level in 1981, 85 percent in 1985, and 90 percent in 1985. Economies of scope have enlarged as well. While travel agents booked 92 percent of domestic air travel through these systems, they broadened into other related sectors: they booked 69 percent of car rentals, 51 percent of hotel rooms, and 4 percent of passenger cruises through these reservation systems.

Value of Information Gateways

Sabre, Appollo, and other airlines reservation systems are examples of information gateways. A gateway is defined as a service permitting users to access various information sources offered by other vendors. Examples of other gateways that participate in similar submarkets include CompuServe, Dialog, Dow Jones News Retrieval and fifty-five others.

CompuServe, for example, provides access to five other information vendors. CompuServe's gateway information services are also profitable, realizing $15.5 million in net earnings from $102.9 million in sales during 1987, according to a 1988 NTIA Information Services Report published by the Commerce Department.

Dialog is one of the nation's major gateway services, with 91,000 subscribers and 320 databases. The $98 million business that generated earnings of $9.2 million was acquired recently by Knight Ridder for $353 million, or 38 times earnings. Knight Ridder appears to value information gateways highly; information services were up 25.9 percent in 1987 - prior to the acquisition of Dialog - while its other businesses grew less than 7 percent.

Information gateways are seen as vehicles for growth and profitability by other firms as well. Firms that are forming or operating information gateways include: GEnie (General Electric), Lexis and Nexis (Mead). Currently, all of the RHCs have announced plans to enter into or operate gateways beginning during 1989. These include audiotext gateways, videotex gateways, voice-messaging services, and electronic messaging gateways.

Market Valuation of Firms in the

Information Industry

One approach to evaluating business performance is through market valuation. Several high-performance information firms are identified using five financial criteria, including market valuation. In the create sector, for example, Gannett, Washington Post, Times Mirror, Dun & Bradstreet, and Dow Jones all showed above-average performance in terms of (1) return on equity, (2) market to book, (3) net profit margins, (4) cash flow per investment expenditure, and (5) sales growth. These criteria were selected due to their ability to discriminate high performing firms from competitors. The first four measures indicate how well a firm generated surplus resources, the latter how well it invested them.

Returns and valuation for these firms rose even higher during the past four years relative to their peers and in absolute terms. Diversification into the emerging submarkets of the information industry appears to have been a contributing factor toward their improved business performance. This diversification was achieved in spite of slower growth rates of sales in their traditional businesses.

The industry is increasingly dependent upon international transactions and relationships. This dependence can be seen across many submarkets, such as funds transfer, brokerage quotes, airline online databases, newspapers, private networks, software, and global data communication networks. For example, Dialog provides services in Europe with a dedicated communications line to England; Dow Jones News Retrieval is also offered in England. American Airlines is investing in a $100 million global information network that eventually will connect all of its 67,000 employees with each other, and will be able to interact with the Sabre airline reservation systems.

International influences are likely to play an increasing role in effecting the business performance of firms in all sectors, especially the fast growing use sector.

Dramatic performance has already been achieved by key firms in the use sector in the past ten years. Average returns on equity ranging from 14 percent to 40 percent were realized by key firms in the use sector with associated higher market to book ratios. In the past several years, these firms also exhibited stronger performance as the submarkets in which they operate have expanded rapidly. Sales growth, return on equity, and market to book ratios have all improved with respect to the average values for the same firm during the 1978 to 1987 period.

The relationship between market valuation and return on equity is useful in distinguishing business performance among firms in an industry, as discussed by Nicholas Filippello in the July 1988 issue of Business Economics. Publically traded firms that have more favorable market to book ratios tend to be those that experienced high returns on equity. (See Figure 1.)

The same relationships appears to apply to firms in the information industry. Selected high performance firms in the three sectors of the information industry are plotted in Figure 2. Exemplar firms in the create sector include Washington Post, Gannett, Times Mirror, New York Times, Dow Jones, McGraw Hill, and Dun & Bradstreet. Those in the move sector include American Telephone and Telegraph, MCI, GTE, Ameritech, Bell Atlantic, Bell South, Nynex, Pacific Telesis, Southwest Bell, and U.S. West. Those in the use-product sector include Amdahl, Apple, Compaq, Digital Equipment, IBM, Wang, Hewlett Packard. Those in the use-services sector include Ashton Tate, Automated Data Processing, Computer Associates, EDS/GM, Lotus, Microsoft, and Telerate.

Some of these firms participate in several submarkets, and in some cases more than one sector. However, the market-to-book ratios of firms in the overall industry reflect the theme that higher market to book ratios (market valuation) are usually consistent with higher returns on equity.

A simple linear regression of these firms, with data averaged over the period 1978 to 1987, resulted in R-squared of 0.736 (Y = 0.228 X - 1.325 where Y refers to market to book ratios, and X are average ROE values).

It is the move sector, especially local and long distance telecommunication service firms, that is constrained. They have not participated in the rising performance of others in the industry. The seven Regional Holding Companies have an estimated 75 percent share of local telephone service submarket through their Bell operating subsidiaries with 12 to 14 percent net profit margins, on average.

Several barriers have kept them at about the same performance levels during the past four years. RHCs have not been permitted to enter freely into attractive submarkets due to federal court restrictions; they have faced bypass competition as private corporations have developed their own private networks to control costs and sensitive information; and other firms are beating them to many high growth submarkets; while telecommunications service firms are left on hold.

As seen in Figure 2, the information sectors exhibit markedly different performance. The move sector is essentially "boxed in" to relatively lower valuations, while key firms in the create and use sectors experience more volatile but higher market values. Shaded boxes represent [+ or -] 1 standard error from linear regression.

CONCLUSIONS AND TRENDS

Recent high growth in the information industry has created a marketplace totaling an estimated $400 billion by the end of 1987. A new segmentation of the industry consisting of forty submarkets organized into create, move and use sectors is developed in order to understand the changing structure of this industry. An evaluation of this framework resulted in several key findings:

1. Profitable businesses can be developed in the

information industry by selecting key submarkets,

some of which create or use valued

information. Examples of emerging high-growth

submarkets include: voice mail, electronic

messaging, electronic funds transfer,

software applications, electronic date interchange,

and online databases.

2. Information gateways also offer profitable opportunities,

but only a few firms have been

successful to date in organizing and packaging

a combination of submarkets that customers

will buy. Examples of successful gateways include

established businesses such as Sabre,

Covia, System One computerized reservation

systems, CompuServe, Dow Jones, Lexis and

Dialog information services that provide

highly valued information or access to people

via bulletin boards or other forms of group

interaction.

3. Information can be reused, repackaged, and

resold. Seen as information flows, it can be

created, moved, and used in a repeating process.

Information is more highly valued when

it is directly used in influencing a specific decision,

when it is customized for the user, and

when it is provided in a timely manner.

4. Firms that have focused most of their operations

solely in the move sector have not

achieved the same business performance

when compared to those that integrated several

submarkets across the industry to build a

unique structure. Market valuation of the regional

holding companies (RHCs), new entrants

in the industry, is below other firms who

have been able to enter submarkets early and

stake out important positions in emerging high

growth submarkets. Regulatory conditions imposed

on telephone operations of RHCs appear

to have played a major role in constraining

their performance relative to other firms

that are not regulated. Firms participating in

the create and use submarkets are subject to

competitive pressures but not the same regulatory

constraints.

5. A combination of five factors has proved useful

in distinguishing firms with above-average

business performance in the information industry:

return on equity, market to book, net

profit margins, cash flow to investment expenditures,

and sales growth.

6. The framework can be used as a tool to understand

how an industry can be defined,

measured, and evaluated. Established players

and new entrants can be portrayed on the

management map.

PHOTO : Figure 1 Information Industry Market Performance

PHOTO : Figure 2 Information Industry Market Performance Key Information Sectors

REFERENCES Chakravarthy, Balaji, "Measuring Strategic Performance",

Strategic Management Journal, 1986. Filippello, Nicholas, "Wall Street and U.S. Corporations:

The Discipline Imposed on Management",

Business Economics, NABE, July 1988. Gross, Andrew C., "The Information Vending Machine",

Business Horizons, January 1988. Laird, Joseph E., "Innovation in Information", Hambrecht

& Quist, San Francisco, May 1986. National Telecommunications and Information Administration,

NTIA Information Services Report 88-235,

U.S. Department of Commerce, Washington,

D.C., August 1988. U.S. Department of Justice, "The Geodesic Network

1987 Report on Competition in the Telephone

Industry", (The Huber Report), Washington,

D.C. 1987. U.S. General Accounting Office, "Airline Competition,

Impact of Computerized Reservation Systems",

Washington, D.C., May 1986. 1987 and 1988 U.S. Industrial Outlook, U.S. Department

of Commerce, Washington, D.C., 1987 and

1988. 1987 Annual Reports, 10K reports of firms identified in

this paper.

(*)Rosalind Wells is President, Wells & Associates, Inc., a consumer-focused economic research firm in New York, NY.
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Author:Raphael, David E.
Publication:Business Economics
Date:Jul 1, 1989
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