Porter’s Five Forces Flashcards
What is Porter’s Five Forces Model?
A framework for analysing the nature of competition within an industry
• Helps understand & assess industry profitability & attractiveness
Reasons Why Competitive Rivalry (and Profits) Vary Between Industries
Size (revenues, quantity) • Structure • Distribution channels • Customer needs and wants • Profitability • Growth • Product life cycle • Alternatives for the consumer
Is cafe sector low or high profit
Low
Soft drinks low or high profit
High
Pharmaceuticals high or low profit
High
Airlines low or high profit
Low
Why Profits are High in Soft Drinks
Customers and suppliers have little power
• High brand awareness & loyalty = less desire for substitutes
• High barriers to entry (economies of scale)
Low industry profits associated with:
Strong suppliers, Strong customers (buyers), Low entry barriers, Many opportunities for substitutes, Intense rivalry
High industry profits associated with:
Weak suppliers Weak customers (buyers) High entry barriers Few opportunities for substitutes Little rivalry
Barriers to entry
Economies of scale, Vertical integration, Brand loyalty, Access to the best technologies, Expertise & reputation
Suppliers are powerful when
There are only a few large suppliers
• The resource they supply is scarce
• The cost of switching to an alternative supplier is high
• The customer is small and unimportant
• There are no or few substitute resources available
Bargaining Power of Customers
Powerful customers are able to exert pressure to drive down prices
• E.g. supermarket business is increasingly dominated by a small number of large retail chains able exert great power over suppliers
the role of technological change on forces
rapidly creating new substitutes
Determinants of Intensity of Rivalry (1)
Number of competitors in the market,
• Market size and growth prospects
– Competition tends to be most intense in slow-growth or declining markets
• Product differentiation and brand loyalty
Determinants of intensity of rivalry (2)
The power of buyers and the availability of substitutes,
• Capacity utilisation
– The existence of spare capacity will increase the intensity of
competition
• Cost structure of the industry
– Where fixed costs are a high percentage of costs then profits
will be very dependent on volume
– As a result there will be intense competition over market share
• Exit barriers
– If it is difficult or expensive to exit an industry, firms will remain thus adding to the intensity of competition
What are the 5 forces
- Bargaining power of suppliers,
- Bargaining power of customers,
- Threat of new entrants,
- Threat of substitutes,
- Rivalry among existing businesses
How to reduce bargaining power of suppliers
Limit power of suppliers by looking for new suppliers,
• Backward vertical integration and merge or takeover the supplier
How to reduce bargaining power of customers
Make it too expensive for a customer to switch,
• Forward vertically integrate
How to tackle threat of new entrants
Create barriers to entry to prevent new entrants,
• Heavily advertise to build strong brands
How to tackle threat of substitutes
• Continuously invest in R&D and develop
patents
• Buy up patents of rivals and shelve to prevent product production
How to reduce rivalry
- Larger businesses trying to buy up rivals through horizontal integration
- Businesses continuously introducing new products to the market
- Businesses in the market having to heavily advertise to maintain market share
