Porter’s five Forces is a strategic model elaborated by the engineer and professor Michael Porter of Harvard Business School, in 1979 It is used to analyse the level of competition within an industry in order to develop business tactics
By implementing Porter’s five forces, they determine the intensity of competition and rivalry in an industry, defining how attractive the sector is in relation to investment opportunities and profitability. It is used by organisations to assess the attractiveness of an industry in the market.
Characteristics of Porter’s five forces
Let’s know what each force means:
1. Bargaining power of buyers: This means how much influence customers have on the selling prices of your products.
If customers can influence the prices offered by you, then your bargaining power is high and vice versa. In some industries prices are controlled by government authorities, resulting in low bargaining power of customers.
2. Bargaining power of suppliers: This is based on how well they can control the prices of the raw materials they supply to companies.
If your suppliers are few and your company depends on them, you are obliged to buy from them because of some political or international trade regulations.
This particular Porter’s strength is considered high, as a market/industry with this type of business is considered unattractive for the sector.
3. Threat of substitute products: This threat relates to the ability of customers to switch to substitute products that serve the purpose of an existing item.
If customers can easily switch to substitute products and whether or not there are low switching costs, here the threat of substitute products comes to be considered high.
Here the market is less attractive and existing firms need to innovate their products to retain their existing customer base. An example is the mobile phone industry, where customers can switch from Samsung to Xiaomi without incurring any additional costs.
4. Threat of new entrants: It means how easy it is for new entrants to enter an industry and gain market share.
There are barriers to entry such as high licensing fees, high infrastructure costs, few key players who control the industry, etc.
However, it would be difficult for new entrants to enter the market, therefore the threat from new entrants will be low. When such a scenario arises, the market is considered to be attractive for existing players and they may enjoy low competition.
5. Rivalry among existing competitiors: This Porter’s fifth force shows the competition between existing actors (firms within an industry), which also contribute to a specific sector.
If companies already in business have fierce competition and fight aggressively for market share, it means that the niche is less attractive to new entrants and, to some extent, to existing competitors.
In this case companies with innovative products and better pricing strategies survive, while small businesses are being squeezed out. This model is often used for business planning and to develop growth strategies for companies.
What Porter’s Five Forces are useful for
It is useful for understanding the competitive dynamics of a specific industry.
In short, it can be used to answer the following questions:
- Who are the main competitors?
- Who has the power and how can they use it?
- How does the supply chain work?
- How strong is the competition in the industry?
- How attractive is the industry to new entrants?
- Therefore, what is the opportunity to create profits in the industry?
It is possible that there is a sixth force
In order to update this model, have incorporated a new Porter’s force, which can be considered key as public authorities especially in markets with very protectionist policies.
6. Public Powers
The state as a regulatory body can be a decisive cause of market flow.
Implementation such as laws, decrees, regulations or taxes can be an obstacle for a business that wants to be part of a specific market and depends on the rulers and their political administration.
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