Why Entry Barrier is required in a Business to be considered worth investing ?

 

Before you know Why entry barrier is required, you have to know what entry barrier is? Why an Investor  should consider this factor before investing in any stock.

                    An entry barrier is like any special quality that company possess which provides superiority or an edge over its competitors.

·         An entry It might be a “Brand Value”

Example

Imagine you  go to the kirana shop for buying cooking oil. You asked the shop keeper to give “Saffola” cooking oil. The Shop keeper tells you that “saffola ” is not available at present and offers you another brand. But you denied him and went to another shop for buying the cooking oil. In this case the brand power acts as an entry barrier which prevents other companies to gain market share in that product category. This brand value is developed in a long process during several years and could not be diluted by any other company easily. So we should select this company.

 

·         It might be any “Govt. Regulations”

Example

Banking Sector. Banking is a highly regulated business in India and it is Regulated by RBI .Banking license is not given easily by RBI. It acts as an entry barrier to other companies to enter in this segment. India’s per capita income is rising and credit growth is supposed to be grow rapidly in future. So if entry barrier is not there then other companies may apply for banking License and get existing market share from existing companies also the future market share what may come to them in future.

                  Consider a Case. HDFC bank is No.1 Pvt Bank in India and Grown well since its inception. But Technology, especially INTERNET has grown rapidly in India since last few years. Now if RBI allows AMAZON, PAYTM to give loan to people, then what you think who will disburse loans rapidly; HDFC Bank or AMAZON, PAYTM.

                           Definitely AMAZON, PAYTM. Because they have more data of customers i.e. Purchase pattern, Payment History, Credit Strength etc. than that of HDFC bank has . They will use data analytics and grab the future market share from HDFC bank.

 

·         It might be a “Technological Supremacy”

A company having a technological Intellectual property acts as an entry barrier for other companies to gain its existing and future market share.

Ex-TESLA Motors

                TESLA is making electric cars. Imagine its car took 3 Hours to fully charge and can travel 1200 Kms, once fully charged. But Other car makers have electric cars that took 7 hours to be fully charged and a milage of 700 Kms .Then TESLA will sell more cars in future than its peers. Now we can invest in TESLA with respect to this fundamental entry barrier concept.

            But gradually TESLA’s peers will do more research to have TESLA like technical solution. Now what should TESLA do to keep it market share gaining momentum intact.

         “The word is Innovation”

           TESLA must continuously do innovations in technology to keep its current market share intact and to grab future sells.

            So if we are buying TESLA’s shares by looking the current scenario of TESLA is technologically 10x ahead of others; then we should always remember that for holding TESLA’s shares for long duration, the present condition should be satisfied for any given point of time till we hold shares.

           So, we should keep an eye over the following –

1)     Whether TESLA is continuously doing innovations or not ?

2)     Whether it is always 10x ahead of its peers or not.

Example-Apple

Apple’s smartphones and other products are superior than its peers. In countries like India where population is high and per capita income is rising but slowly. Majority population live in rural India.

             Gradual increase in rural income and availability of credit facility i.e. Loans; gave Smartphones in the hand of people in villages.

                   Just think how technology empowers you to participate in digital revolution in low cost, because now you just need a smartphone worth Rs.10,000/-  not a Rs.35,000/- Laptop or Computer to be in the world of Information Technology.

                   The only thing left is affordable “INTERNET”.

The entry of JIO and fight of tariff war full-filled this gap. Now the people are of low income group in villages knew about superior APPLE phones through digital media like FACEBOOK advertisements, YOUTUBE reviews etc.

                    Now apple do not need to do much in marketing and half the job done. The people in Tier-2 and Tier-3 cities and villages are waiting for a little bit secure job ,steady rise in income which is required for availability of Loan to him. Because without secure cash flows, Banks, NBFCs will not give loan to them. Now the person is waiting for these factors to happen. Once it is available he will not buy phones like Xiomi, Realme. Infact he will buy i-Phones.

        Now the investor inside you analyzed these things and bought APPLE shares.

         Wait, the last line is still left.

               As an Investor you knew that these things will happen in next 5-10 years. But when the person in the village gets the money,at that time APPLE should be there with majority market share in terms of value as it has now ( Market share in terms of Value is something ,what is technologically superior but presently not affordable by majority of people due to their low income, Ex-BMW, Audi like auto companies).And for maintaining its current market share ,APPLE should do innovations continuously  in their products. Because its peers will always chase it in terms of technology.

         So if you bought APPLE stocks you should track whether APPLE is doing innovations continuously or not?

          Similarly some other segment entry barriers are as follows

1.       Banking  (Not NBFC)

2.       Insurance

3.       Health Care

4.       Sin Products (Cigarettes, Liquor etc.)

You should remember that “Segment Entry Barrier” is different that “Company Entry Barrier”