Industry Environment/Porter's 5 Forces
As also mentioned above that the five forces framework given by Michael Porter is a comprehensive model that defines a company’s position and standing in the market. And thus, entities use the framework for their business and strategy planning. It’s a very commonly used yet effective tool that has helped businesses change the line of their operations in terms of the analysis. However, SWOT, IFE Matrix, BCG Matrix and SPACE Matrix are equally important techniques.
Why should we use Porter’s 5 Forces model?
It is important for any company to understand the industry and how will its future be in the years to come. It also explains to you the type and level of competition. All of this is useful to understand the attractiveness of the market and how to operate in it to ensure maximum profit.
What is the best thing about Porter’s Five Forces model?
Porter has very effectively explained as difficult a concept as a framework for business strategy designing in a very simple language. Also, the complex models with varying levels of dynamics have also been made simpler for managers working in different tiers of the company. You can find explanation to each of the factor mentioned and develop strategies and marketing decision accordingly.
Is Porter’s Five Forces model effective?
There are varying views on this question. The group that favors the model suggests that it is exactly how business environment works and thus all business decisions should be based on the analysis of each of these factors and how they apply on your organization. Others simply disagree to the extent that they advocate no use of any of the mentioned factors whatsoever. However, what we need to understand is the fact that it is totally dependent on the industry dynamics that your company is operating in as well as the time that you are applying this principles at. Time is of great importance because it suggests how different elements will be interacting with each other at that particular moment; one moment one of the factors can be overpowering than the other while after some time or a few years it may not affect the company as such.
What is the fundamental concept behind Porter’s 5 Forces model?
Porter’s framework basically talks about the forces that influence the business entity and eventually the decisions that they have to make. These are:
• Threats of new entrants
• Threats of substitute products
• Bargaining power of buyers
• Bargaining power of suppliers
• Rivalry among competitions
There are several theorists and economists who suggest that apart from these 5 forces, government and law enforcing entities also form an important pillar.
First Force – Threats of New Entrants
There are several factors that pose threat to new and potential entrants to get into any industry. These factors are:
• Investment requirement
• Government laws and regulations (incl. taxation)
• Cost advantages
• Financing opportunities
• Production cycle
• Availability of distribution channels
Below are the questions that businesses need to answer to understand this threat:
1. Can the above barriers to entry be increased?
2. Who can be the potential entrants and what are their basic traits?
3. How can a new entrant shape the future of the industry in terms of strategies?
4. When can you predict a potential entry?
Second Force – Threats of Substitute Products
This is one of the major game changing questions. As a product or strategy manager, you need to ask this question to yourself how can your product be substituted easily. To answer to this crucial question, consider the following:
• What would be the switching cost of the customer?
• What is the tendency of the customers to switch to a substitute product or service?
If you have realized that your product and service can easily be substituted, then you have a problem because at that point in time you are only left with the opportunity to compete on price. So, you need to understand the customers themselves in all the realms because you can’t let them dictate the prices.
Third Force – Bargaining Power of Buyers
To understand the positioning of buyers, consider the following:
• Concentration and volume of buyers
• Accessibility of information to them
• Power of negotiation they have
• Price sensitivity
• Is backward integration a threat?
• Your product or service differentiation
• Substitutes’ availability in the market
Fourth Force – Bargaining Power of Suppliers
This refers to the authority the suppliers have on you or your decisions. Consider the following to understand this:
• Are suppliers in a strong position?
• How many suppliers are available?
• See if there is a monopoly in the market
• Do you talk to one supplier or multiples for your decision?
• The volume you take from each supplier
• Switching costs in terms of suppliers and how will it affect you
• Substitute of suppliers in the market
• Is there a threat in the forward integration activity?
Fifth Force – Rivalry among competitors
You should know the number of competitors you have in the industry and what kind of competition is present among various players. Consider the following to answer this:
• Is there a dominating player or is every player equally powerful?
• Do you see exit barriers in the industry?
• The growing tendency of the industry
• The availability of resources to the industry
• The concentration of the industry
• Customer identification and relation with your brand
• Differentiation of your product
• Diversification of rival groups
What are the basic assumptions based on which 5 Forces model is made?
It works on the risk-adjusted rates basis, which advocates that the rate of return should remain consistent across the industry.
How to analyze and examine business from the inside?
It is an important fact that the Porter’s model takes its approach from the outside perspective of the business. If you want to examine the position of your company from within the entity, the best alternative is the SWOT model. It further complements the Porter’s model as well as gives insight to the internal aspects of the company. Two more alternatives are IFE or EFE matrix and Balanced Scorecard.