Whether you are an established business in your industry or a small or upcoming company, competition is an essential aspect you need to take into consideration when calculating your success.
A macro tool like porters five forces model helps you analyze your competition and better understand where you stand in your industry.
Let’s dive deep into these five forces and how you can use them to get going on the path to success.
What are Porter’s Five Forces?
Porter’s Five Forces is a strategic framework developed by Michael Porter, a renowned economist, and professor at Harvard Business School. Created in the 1970s, it analyzes the competitive forces within an industry or market.
Michael porters five forces identify five key forces that shape the competitive environment: the threat of new entrants and substitute products or services, the bargaining power of suppliers and buyers, and the intensity of competitive rivalry. These forces are crucial because they determine the attractiveness and profitability of an industry.
By understanding and assessing each force, businesses can gain valuable insights into their competitive position, identify potential risks and opportunities, and develop effective strategies to gain a competitive advantage. Michael Porter’s framework has become a fundamental tool for businesses worldwide, providing a systematic approach to industry analysis and strategic decision-making.
The Five Forces
Porter’s five forces model provides a structured approach to assess the competitive forces within an industry and understand the overall industry profitability. The five forces identified by Porter are:
- The Threat of New Entrants
This force examines the barriers to entry for new competitors in an industry. Factors like economies of scale, brand loyalty, government regulations, and access to distribution channels can make it challenging for new entrants to enter and compete effectively. Higher barriers to entry generally result in lower threats from new competitors.
- Bargaining Power of Suppliers
This force analyzes the power that suppliers have over the industry. If there are few suppliers or they possess unique resources or expertise, they can exert greater control over pricing and terms. Strong supplier power can limit the profitability of firms within the industry.
- Bargaining Power of Buyers
This force considers the power that buyers have over the industry. If there are few buyers or they have significant purchasing volume, they can negotiate lower prices, higher quality, or better terms. Strong buyer power can reduce industry profitability.
- Threat of Substitute Products or Services
This force looks at the availability of alternative products or services that can fulfill the same customer needs. If many substitutes are available, customers can easily switch, which puts pressure on pricing and profitability within the industry.
- Intensity of Competitive Rivalry
This force assesses the level of competition among existing firms in the industry. Factors such as the number of competitors, their market share, product differentiation, and industry growth rate influence the intensity of rivalry. Higher competition can lead to price wars, reduced profitability, and increased effort to differentiate products or services.
By analyzing these five forces, businesses can gain insights into the competitive landscape and make informed decisions about strategy, market positioning, and resource allocation. It helps them understand the factors influencing industry profitability and identify areas of competitive advantage or vulnerability.
How to Use Porter’s Five Forces Model
Here’s how to use Porter’s Five Forces model:
Step 1: Identify the five forces in your industry.
The five forces in Porter’s model include:
- The threat of new entrants
- Bargaining power of suppliers
- Bargaining power of buyers
- The threat of substitute products or services
- The intensity of competitive rivalry
Step 2: Assess the strength of each force.
For each of the five forces, analyze their strength and impact on your industry. Determine whether each force is weak or strong. A strong force indicates a higher level of competition and potential threats to profitability, while a weak force suggests a more favorable industry environment.
Step 3: Identify opportunities and threats.
Based on your analysis of the five forces, identify the emerging opportunities and threats. Opportunities may arise from weak forces or favorable industry conditions, while threats may stem from strong forces or unfavorable market dynamics. Consider how these factors may impact your business and industry outlook.
Step 4: Develop a strategy to address the opportunities and threats.
Formulate a strategy to address the identified opportunities and threats. This could involve leveraging strengths to exploit opportunities or mitigating weaknesses to overcome threats.
Your strategy may include improving competitive advantages, entering new markets, forging strategic alliances, enhancing customer relationships, or adjusting pricing and product offerings.
Remember that Porter’s Five Forces is a dynamic model; the forces can change over time. Regularly reassess the industry landscape to stay informed about shifting competitive dynamics and adjust your strategy accordingly.
Advantages and Disadvantages of Porter’s Five Forces
Advantages of Porter’s Five Forces:
Porter’s Five Forces provide a comprehensive framework for analyzing the competitive dynamics of an industry. It considers multiple aspects, such as the bargaining power of suppliers and buyers, the threat of new entrants, the intensity of competitive rivalry, and the threat of substitute products or services.
Easy To Use
The framework is relatively straightforward, making it accessible to many users, including managers, analysts, and students. Its simplicity allows for quick application and facilitates effective communication of findings and insights.
Identifying Opportunities and Threats
By analyzing the five forces, organizations can identify potential opportunities and threats within their industry. This analysis helps make informed decisions regarding market entry, pricing strategies, resource allocation, and overall industry positioning. It enables companies to capitalize on favorable conditions and mitigate risks.
Porter’s Five Forces focuses specifically on the industry level, making it particularly useful for understanding the competitive dynamics within a specific market. It provides a structured approach to assessing the industry’s attractiveness and competitive forces that impact profitability.
Disadvantages of Porter’s Five Forces:
One of the limitations of Porter’s Five Forces is that it is a static model, meaning it assumes a fixed industry structure and conditions. In reality, industries are dynamic and constantly evolving. Technological advancements, regulatory changes, and market disruptions can quickly alter the competitive landscape, rendering the analysis outdated.
The framework primarily focuses on the competitive forces within an industry, neglecting other important external factors such as macroeconomic trends, political influences, and sociocultural factors. These external forces can significantly impact industry dynamics but are not explicitly considered in Porter’s Five Forces.
The analysis of Porter’s Five Forces involves making subjective judgments and assumptions. Assessing factors like the bargaining power of suppliers or the threat of new entrants may require subjective interpretation, leading to potential biases in the analysis. Different individuals may arrive at different conclusions based on their subjective perspectives.
Lack of Quantitative Measures
The framework lacks quantitative measures, making it challenging to compare and prioritize the relative importance of each force. It relies on qualitative assessments and expert judgment, which can limit the precision and objectivity of the analysis. Without quantitative data, it may be difficult to quantify the magnitude of each force accurately.
The strongest force among Porter’s Five Forces is generally considered to be competitive rivalry, as it directly affects a company’s market share and profitability.
One example of Porter’s Five Forces model is the airline industry. The threat of new entrants is relatively high due to low barriers to entry but established airlines benefit from economies of scale and loyal customer bases, creating a moderate barrier.
The bargaining power of suppliers is significant as airlines depend on fuel, aircraft, and maintenance providers, who can exert pricing pressure.
The bargaining power of customers is high as they have access to multiple airlines and can compare prices and services.
The threat of substitute products or services is moderate, with alternative modes of transportation like trains and cars offering competition.
Finally, intense competition among airlines for market share contributes to the high rivalry within the industry.