Let’s say that a market is the total of all actual and potential customers for a product or service.
A saturated market is one where virtually every potential customer has been turned into an actual one. At that point, sales gains for a given company can only come from:
–the (slow) growth of the population,
–replacement demand (which can be stimulated by the creation of new versions),
–the sale of maintenance or accessories, or
–taking market share away from competitors.
effect on sales and profits
As a company’s products approach market saturation, sales growth typically slows. In the terminal phase, expanding as fast as nominal GDP becomes an aspirational goal. The competitive environment also changes dramatically in a saturated market. Sales become more costly to obtain, since rivals’ marketing efforts no longer simply expand the market for everyone, but become specifically targeted at taking sales from competitors instead. This forces every market entrant to spend even more money to defend its present customers.
effect on the stock price
For a growth stock, which is most often trading at an overinflated price earnings multiple as this growth downshift is occurring, the increasing saturation of key markets is especially problematic. It typically starts to weigh on the PE long before actual saturation occurs. ESPN, the largest source of earnings for Disney (DIS), and Apple (AAPL) are current examples.
The AAPL case is straightforward. The global market for $600 cellphones is almost completely saturated. The main demographic cohort in the US that still uses flip-phones is the over 60 (over 70?) crowd. Technically speaking, one might argue there’s still room to grow. But for every consumer-oriented technological innovation in my career, this group has been especially resistant to change and tough to crack. AAPL has never gotten much traction in Europe. There’s lots of domestic competition in greater China. The result of worries about an end to growth is the principal reason AAPL shares trade at a sub-market multiple.
Several years ago, ESPN attempted to expand abroad–a clear signal that it regarded the US market for sports entertainment broadcasting to be saturated. It was unsuccessful. Since then, as I see it, DIS has been redirecting cash flow from ESPN to expand its parks and movies businesses. To my mind, this is the sensible course of action for it. For a one-product company, which many growth companies tend to be, this is not an option.
Tomorrow: saturation in the e-commerce market in China