This paper presents overview of NEXT and Porter's 5 forces analysis of NEXT which is

analysing bargaining power of customers, bargaining power of suppliers, threat of new

entrants, threat of substitute products and intensity of competitive rivalry affecting
NEXT. op the Directory

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Michael Giffels

Analysis of NEXT plc and its environment

Contents

1 INTRODUCTION 2
2 OVERVIEW 2

2.1 The Market 2

2.2 The Company 3

3 ANALYTIC TOOLS 4

3.1 PEST - Analysis 4

3.2 SWOT - Analysis 7
3.3 Competitive Analysis 9

4 CONCLUSION 12
5 MISSION STATEMENT 13
6 OBJECTIVES AND STRATEGIES 14

6.1 Good quality and price 14

6.2 Relationship between Next and its environment 14
6.3 Shopping as en event 15
7 BIBLIOGRAPHY 16

1 Introduction
This Report should give the reader an overview of the clothing retail market in general
and an in-depth analyse of NEXT Plc in detail. The main emphasis in this essay are the
Retail and Directive division of NEXT Plc because they are the cash generators.
Furthermore it shows the current situation of NEXT, its environment and the recent
development of the company. The report also provides a mission statement and strategies
how to be more successful in the near future.

2 Overview
2.1 The Market
The UK clothing market is a declining market. The clothing industry is beset by
competition from companies which have invested in hi-tech machinery leading to greater
efficiency or have moved their production to factories in cheap labour cost countries to
produce their products. However, most companies in this sector make only moderate
profits. To expand the market share in this arena is not easy, and therefore it needs a great
deal of endeavour, knowledge, as well as energy and money.

Clothes retailers fall into two broad categories: firstly, those selling own-brand clothing
and, secondly, those selling third-party wear. Major retailers such as Marks & Spencer
and the Arcadia Group are good examples of the first group, as are chain operations such
as NEXT and Gap. The second group includes the major department stores and the
majority of independent retailers in the UK.
Clothing retailing is a highly diverse industry. The retail sector ranges from low-cost and
discounts retailers through to independents, sportswear, formal wear and highly exclusive
designer boutiques. However, as in most consumer goods markets, it is at the middle
level where the major players are to be found and money can be earned.

2.2 The Company

The history of NEXT goes back to 1864 when it was founded by J. Hepworth & Son
under the name of Gentleman′s Tailors. In 1981 Hepworth bought the chain of Kendalls
shops to establish a new Womenswear group of shops. This was the birth of NEXT.
NEXT Plc is a trendy high street retailer which sells moderately priced clothing for
stylish women and men in the age range 20 to 40. The company also provides home
shopping and financial services.
NEXT operates through five divisions: NEXT Retail operates the high street shops
through more than 330 stores covering the UK and Ireland; NEXT Directory is the mail
order division which also contain the e-commerce platform; NEXT Overseas operates
retail outlets in the United States, Asia, Continental Europe, and the Middle East through
franchise agreements; Ventura runs the financial services division. Other activities
include telecommunications software services and property management.
NEXT Retail accounted for 69% of the fiscal revenue for the year 2000 ; NEXT
Directory, 19%; Ventura, 9%; NEXT Overseas, 1% and other activities, 2%. More than
96% of sales were achieved in the UK market.
 Taking an up to date
snapshot of the current situation of the Company, it is quite a success story. NEXT nearly
tripled their sales during the last six years, Source: see Chapter 7

from GBP 544 m (1994) to GBP 1430 m (2000) and dividends have increased steadily.

3 Analytic Tools
3.1 PEST - Analysis
This analysis is a helpful tool to take a closer look at the general environment. Although
the PEST analysis rely on past events and experience, it can be used as a forecast of the
future (Wilson and Gilligan, 1998).

Political factors
The political environment is good. The government is stable and reliable, even if Britain
fails to achieve total agreement with some EU policies from time to time. At the present
no EU directives are known which will have a direct effect on the UK clothing retail
industry in the near future.
Due to the EU membership a trend can be seen towards stricter environmental protection
legislation. This may have a direct or indirect effect on NEXT or his suppliers.

Economic factors
Looking at the economic environment, it is somewhat tricky since on the one hand there
is the strong sterling compared to the Euro. Euroland encourages imports and endeavours
to hold domestic prices at an attractive level. But on the other hand it is difficult for the
UK to be competitive outside its boundaries because of the high pound sterling exchange
rate against the Euro. As NEXT sells about 96% in the UK marketplace, this may
currently only have a limited effect, but could be more important in the future when
thinking globally.
Fig. 2
 This can also be seen on the "Big
Mac - Cross Rates" table, where hamburgers sold in the UK are more expensive than in
most other countries. So an investment outside the UK might be very attractive - also
speaking of "re-imports" to transfer the goods back into the domestic market.

Source: see Chapter 7

Another issue is the falling unemployment rate. For the UK population this is good news
but for companies like NEXT, this has different implications. For NEXT it means higher
expenditure on wages, as well as greater difficulties in recruiting good employees.

Social factors
Speaking of the socio-cultural future it should be mentioned that people retire earlier
these days, as well as working shorter hours. Average working hours per week have
decreased over the last 20 years. As a result many people have more spare time. This
means they have time to compare prices in the High Street and the quality of goods and
services from retailers. But as a result, they spend more time in the shops.
Another issue these days are the "Green environmental issues". Because people have
more time and have ample access to the media via the TV, radio, as well as newspapers
and the Internet, the consumer is better informed and therefore this awareness of
environmental issues challenges him to care. He wants more than just a product. He is
interested in the production process. He wants to know if the factories are
environmentally friendly or not, where his product was build and under which
circumstances etc. etc. So one problem in the clothing retail sector could be child labour.
There are companies who rely on it in order to be competitive in their domestic market,
for example Marks and Spencer. Marks & Spencer had been accused of using child
labour in Indonesia in 1999. But once the customers becomes aware of such practices,
companies get into real trouble if they do not respond immediately. Consumers who are
looking for a best price purchase, may however not be prepared to consider the economic
price which their social conscience inflicts on those companies whose products offends
their ethics and which they consequently shun.

Technological factors
Another issue is the speed of technological transfers which also has an impact on the
industry - it is not comparable with the fast growing internet business - but nevertheless it
is important. New technology allows new products to be developed, e.g. Lycra®,
Supplex® or other synthetic material. Existing materials can be produced quicker and
cheaper. Adopting these technologies can be a decisive factor as to whether a company is
ahead of his competitors or whether it lags behind.

3.2 SWOT - Analysis

The SWOT analysis examines the organisation′s external environment and also explores
the internal environment (Lynch, R 1997). This requires listing and analysing the main
strengths of business, its weakness and the likely threats and opportunities it will be
facing in the future (Doyle, P 1998).

Organisational Strength
The strength of NEXT Plc is their adult fashion wear for people between 20 to 40 which
are sold under their own label. This is their main target group. While some of its
competitors have problems to satisfy this segment, NEXT managed it very well in the
past, selling their stylish products at reasonable prices. NEXT customers associate with
the NEXT label - good quality of the cloths used and good workmanship. As they are
using their own brand they can react on consumer wishes very quickly and have total
control over the quality management.

Organisational Weakness
Further gains can be made by the e-commerce division. NEXT, who spent GBP 125,000
sees the internet as an extension of the telephone to order their products online. It is
nothing more than a vehicle to get the orders to the retailer. Their competitors interpret
the internet phenomenon differently. Debenhams for example invest more than GBP 5m
on internet technology and Mark and Spencer even spend GBP 50m in e-commerce and
digital TV.
Right now, nobody can tell if e-commerce will be the future of shopping and customers
are satisfied sitting on the computer to chose their clothes. But if the trend of internet
shopping goes further NEXT is in a bad situation compared to its competitors because its
platform is not sufficient enough.
Another weakness is the concentration of similar type of clothing retail companies on the
UK market. This can damage NEXT if competitors gain market share or if consumers
change their habits and NEXT cannot adapt to these changing trends quickly. To
diversify into foreign markets could balance any possible risk of decreasing sales.
Furthermore such a policy would strengthen NEXT′s position if the pound become
weaker or if the government decides to join the Monetary Union.
Environmental opportunities
Nevertheless mail order is an important plank in the retail trading stakes. Employees aged
20-40 have little time to do their shopping. So it is good that NEXT has gained a foothold
in this market. They are ranked number one among the High Street names which are
offering mail order clothing. This could be a great opportunity for NEXT to increase
market share -speaking of the domestic market as of the foreign markets - to use their
knowledge and experience over the years they can make it even harder for its competitors
to step in. More opportunities are mentioned at chapter 6.

Environmental threats
A threat is the low market growth and the strong competition. Some companies are very
aggressive in their attempts to gain market share or to maintain it. To reach their aim they
are offering high street products manufactured in third world low labour cost areas at
dumping prices. Tesco for example offered Lewis 501 denims twenty pound cheaper than
the high street shops.

3.3 Competitive Analysis

The objective of such an analysis is to investigate how the organisation needs too form its
strategy in order to develop opportunities in its environment and protect itself against
competition and other threats (Lynch, R 1997).

The report will use the Porter Model to give an idea what kind of influences exists and
how a company can deal with it.
Fig. 3

Porter′s Five Forces Model

Bargaining power of suppliers

Source: see Chapter 7

To what extend have the suppliers of NEXT power over the company? In the case of
NEXT the influence is limited because there are a lot of providers in this sector. If a
supplier were to ask for an increase in his price, or for other better conditions, his
customer could easily replace him in a short period of time. Therefore mutual dependence
is rated low.

Bargaining power of customers

So far as the customer is concerned he has probably the most power because it is he who
buys the product and spends his money. The impact of an individual buyer who goes
shopping at a branch and seeks price cuts is likely to be negligible. However speaking
more generally, if the phenomenon was multiplied by many thousands of price conscious
customers who are not willing to pay the ticket price, management will need to cut prices
to avoid losing sales. Because clothing is not very item specific - a pullover is a pullover -
whether you buy it from NEXT or Marks and Spencer. The only way to attract consumers
to buy a company′s products instead of the competition′s, is to add value, such as label,
style, price or quality.
But still there is no guarantee that NEXT will perform better than other clothing
companies. The customer decides which product he likes - not the company.

Threat of new entrants to the industry

A threat to NEXT are the new competitors entering the market. Maybe not the small ones
because there is a lot of capital needed to go head to head with NEXT - the threat comes
more from the big labels, department stores or chain companies outside the UK.
Companies such as Calvin Klein and Donna Karan, for example, have money, knowledge
and the power to enter the clothing market in a short period of time. Both which opened
their 8,000 to 10,000 square feet stores on New Bond Street or Ralph Lauren which
opened his 45,000 square feet store in central London demonstrate how to infiltrate a
rather conservative domestic market. Additionally, US catalogue retailers are venturing
into the UK market. Lands′ End, the ninth biggest mail order company in the US, had
opened a subsidiary in the UK but also struggle from the strong rivalry, sales are down by
1.9% to USD 143m (2000).

Threat of substitute products or services

Another threat in the eyes of Michael Porter is the issue of substitution. Speaking of the
clothing retail market this problem is not a big issue. A pullover can be a substitute for a
jacket, or trousers for skirts, but since NEXT is provider of all these items anyway so the
impact of a substitute is limited. However the threat in this market is that NEXT fails to
note these trends. The Customers would substitute NEXT with a trendier company if their
products are not stylish, interesting or mainstream enough to attract customers or the
timing is wrong.

Rivalry among current competitors

There exist a huge number of clothes retailer in the UK approximately over 25,000
combined with other outlets make them more than 45,000. This indicates a high rivalry
between competitors. In this phase of the market cycle where there is more or less no
growth, competition is often price-based and therefore very aggressive. To build
customer loyalty with price cutting strategies is very difficult if not impossible. That
means consumers are looking for the best offer with regard to price, service and quality.
If NEXT wants to increase market share it must take sales from its competitors and that
increases rivalry. So it is a kind of price spiral where companies have to cut prices to sell
their products. This leads to decreasing margins and probably to less competitors. This
can be seen in the grocery shopping sector where competition was such though that only
a few big companies survived. Another issue are the high export exit tariffs. If a company
like NEXT, Marks & Spencer or C&A want to leave the UK market it means they have to
sell all their branches and get rid of most of their employees. This causes a lot of
problems in terms of the relevant trade unions, bad publicity or cost for developing a
social viability plan. These are some reasons why companies mostly stay in their known
marketplace instead of leaving them for new opportunities.

4 Conclusion
NEXT is an example how a boat can be steered through storms and waves. While most of
its competitors struggle from the declining market, NEXT managed to increase its market
share over the last six years. Due to high sales they could increase their dividends which
had a positive effect on shareholders and investors.

The company is well positioned in the UK market and very flexible to react to consumer
wishes. They established with a minimum of time and money a quick and easy solution
for those customers who want to order via the internet. By now they are the only big UK
clothes retail company who earns money with e-commerce. Marks and Spencer for
example expects to be profitable by 2003.

In our time it is very important to link a company with an image, to give it its individual
identity. That is one way or probably the only way to differentiate from its competitors.
Many big British corporations like British Airways, Rover or Marks and Spencer missed
to build a strong brand value and that is one additional reason why those companies
suffer today. NEXT on the other hand linked their label with trendy clothes and
professional fashion with good quality and price.

NEXT also expands its network by opening more, bigger and more customer friendlier
stores. To translate their aim into action, a contract was signed to buy at least 13 former
C&A stores which will bring them face to face with Marks and Spencer.

5 Mission Statement
A mission statement should provide focus for goals, clarify issues and outline visions and
objectives. It needs to communicate the essence of the company to the employees,
shareholders and to the public (Hassan, M 1988). Similar to this, Doyle (1998) points out,
that a mission statement describes the purpose of the business and its essential characters.

Without a statement it is like the Cheshire Cat in Alice in Wonderland who said, "If you
don′t know where you′re going, it doesn′t matter which way you go."

One example of a mission statement for NEXT Plc could be:

We want to be the best clothing retailer in the United Kingdom. We strive to exceed our
customers expectations, for our customer is our king. Our stores are well situated and
easy to reach. The environment is to be treated with care. We sell fashionable clothes of
excellent quality and price. Our employees are our treasure. Our goals are double-digit
sales growth and satisfaction of our shareholders in the long run.

This statement indicates that NEXT relies on its core business as a basis for further
enlargement. Furthermore the management is marketing orientated - customers are top
priority and should be satisfied as often as possible speaking of clothes as of services.
The stores should be easy to reach to attract new customers whose intention was to shop
elsewhere rather than at NEXT. Because the "green issue" is getting more important
everyday it should be one of NEXT main concerns. The product itself must satisfy the
customer speaking of quality and price to generate customer loyalty in the long run. The
employees are the soul of a company. If employees are well motivated and committed to
their jobs, they can surmount every obstacle. In increasing market share NEXT is
improving its negotiating position with its suppliers which in turn is likely to lead to an
increase in profit margins.
As a result NEXT will become an attractive investment proposition which will lead to
strengthening of its capital base.
These are the pillars of success and will lead NEXT to increased sales and shareholder
value.

6 Objectives and Strategies

6.1 Good quality and price
This is the key factor for success. But how can this objective be achieved? One
possibility is to look for a supplier who is located in an emerging market to participate at
the low labour costs. However this country should have a clothing manufacturing
background, for example India, Turkey or Hong Kong so that it is easy to recruit well
trained employees. Furthermore should the supplier be a part of the production process so
lean management could be implemented and stock capacity reduced. A quality officer
from NEXT should be at the suppliers at all the time to guarantee the high quality of
clothes. To lower the costs and to gain a better trade position - suppliers should be
reduced to a minimum and therefore new price conditions negotiated. This can lead
NEXT to low costs and high quality in the long run.

6.2 Relationship between NEXT and its environment

As it was mentioned at the PEST analysis - the green issue is gaining greater importance
and NEXT should strive to make further progress in this direction.
There are two tracks which should be followed. First of all the production process. NEXT
should guarantee that the plants are environment friendly.
In other words that the factories are equipped with up-to-date filters which reduces
erosion and the used chemicals are biological decompositioned at all times. Another issue
is labour force - NEXT and its suppliers should aim their production to be achieved
without using child labour and should communicate this to its customers. To be credible
in the public eye a joining up with a non-profit-organisation such as Save the Children to
monitor NEXT activities in this sector could prove worthwhile. The outcome of this
could be a badge which says "we fight against child labour" and this is useful for
marketing purposes.
The second track is the customer itself. He should be aware that resources are limited and
therefore the use should not be wasteful. Because of this, NEXT should use paper bags
and only when it is really needed, contrary to this, Tesco uses plastic bags and even the
smallest items are wrapped. So money can be saved and the environmentally awareness
be sharpened.

6.3 Shopping as en event

In this segment where market shares are mostly gained by price competition it is vivid to
be special. One way to make shopping as an event and therefore add value for customers
is to have superstores. Everything should be generous. Starting with shelves to corridors
to customer care and service in general. Nothing should be omitted to satisfy the
customer - he is king.

So NEXT should close their smaller branches and replace them by superstores. They
should offer special services like make-up studio, clothing consulting stations or child
care. Also small events like fashion shows, autographing sessions or book reviews could
be helpful to attract new customers and make them enjoy their shopping. NEXT should
also provide a resting place where husbands or other not actively engaged in the shopping
process can sit, relax and drink a cup of cafe.

A strong brand, good service and all the other strategies which are mentioned above
should lead automatically to the main aim "double digit growth" and an even better
market positioning for NEXT Plc in the near future.
7 Bibliography

Books
Lynch, R (1997), Corporate Strategy, Financial Times Management, London
Wilson and Gilligan (1998), Strategic Marketing Management, 2nd edition, Butterwoth
Heinemann, Oxford
Doyle, P (1998), Marketing Management and Strategy, 2nd edition, Financial Times
Prentice Hall, Harlow

Hausarbeiten.de - Analysis of NEXT plc and its environment ...

Another weakness is the concentration of similar type of clothing retail companies on the
UK market. This can damage NEXT if competitors gain market share ...
www.hausarbeiten.de/faecher/vorschau/99429.html
We analyze the UK Wine Industry in Michael Porter’s Five Forces
Analysis. It uses concepts developed in Industrial Organization (IO)
economics to derive five forces that determine the competitive
intensity and therefore attractiveness of a market. Porter referred to
these forces as the microenvironment, to contrast it with the more
general term macro-environment. They consist of those forces close to a
company that affect its ability to serve its customers and make a profit. A change
in any of the forces normally requires a company to re-assess the marketplace.
five forces that determine the competitive intensity and therefore attractiveness of
a market.

Sainsbury's And Waitrose Uk Supermarkets Porter's 5 Forces

Competitive Advantage

INTRODUCTION

The UK supermarket industry is a very competitive

and profitable industry. It is made up of four main
players with significant share of the market, and
then various smaller companies who focus on
smaller niches in the market such as the bottom of
the market discounters and the top of the line
speciality stores. It is an interesting market and this
report evaluates the attractiveness of the industry
using Porter’s five forces model with an insight into
how market nicher Waitrose sustains a competitive
advantage. Next this report looks at how major
player Sainsbury’s successfully competes against its
rivals using differentiation strategies, and analyses
current consumer trends and problems can effect
this industry.
UK GROCERY INDUSTRY

The UK grocery retail industry is estimated to be

worth £134.8bn with 95,585 stores. Supermarkets
and superstores consist of 6,336 stores with an
estimated worth of 97.9 billion pounds, according to
the UK Retail Food Sector Market Brief, (2008).
The grocery market is concentrated with seventy-
five percent market share in the hands of just four
supermarket chains. The ‘Big Four’ consist of
Tesco, ASDA, Sainbury’s and Morrisons. The
market shares of the UK’s supermarket chains are
as follows:

UK Supermarket Market Shares

[pic]
UK Food Sector Market Brief, 2008.

Competitive Analysis
Market leader Tesco, occupies the largest market
share and targets the middle market offering value
to consumers, providing both economy and up-scale
products at very competitive prices. (Bradmore,
2005). Market challenger ASDA is slightly down-
market of Tesco competing closely in price and
focuses on delivering low prices to customers, and
Morrisons competes at much the same level as
ASDA. (UK Food Sector Market Brief 2008).
Sainsbury’s, also a market challenger, is pitched
slightly up-market of Tesco, targeting the premium
end of the middle market, the consumers who
 appreciate good quality products for a slightly
higher price....

2 Market-based approach to strategy

The ‘near environment’
All organisations operate in a near or micro-environment, with which they frequently
interact. These organisations will include customers, suppliers and competitors. Examples
of the impact of the near environment on an organisation include:

• competition for customers

• competition for (or collaboration with) suppliers
• competition for resources
• competition (or collaboration) to influence external factors.

A market-based approach to strategy starts by analysing the near environment and the
organisation's resources, and seeks through a process of further analysis and planning to
fit the organisation to its environment.

The near environment is usually contrasted to the far environment (the macro influences
on the organisation such as general economic and political trends).

2 Market-based approach to strategy

2.1 Porter's five forces framework
Much strategy (particularly in the private sector) is concerned with establishing and
maintaining competitive advantage. One of the tools available to assist managers in
analysing the near environment for this purpose is Porter's ‘five forces of competition’
(Porter, 1980). This model is widely used as a means of understanding the structure of an
industry or sector, and as a framework within which to identify possible structural
changes.
The model identifies five types of competitive pressure within a sector: established
competitors, new entrants to the market, substitute products, and the bargaining power of
suppliers and of customers. These are summarised in Figure 2.

Suppliers are important because their relative power can determine what proportion of the
price of the final product they capture. In the automotive component business, for
example, many makers of components vie with each other to supply a small number of
car manufacturers, allowing the car manufacturers to put pressure on suppliers’ margins.
In contrast, a large number of computer manufacturers are supplied by a small number of
makers of computer chips for central processors. Customers may vary similarly in their
relative power.

Figure 2: The five forces of competition (Source: Porter, 1980)

Organisations need to consider not only the behaviour of current competitors, but also the
potential for other organisations to enter the market. The important issue here is assessing
the level of barriers to entry. For example, in sectors where brand recognition is
important, new entrants need to spend heavily to build a brand. In other sectors, the
minimum economic scale of operations may be high, thereby requiring heavy capital
investment by new entrants.

An organisation needs to consider not only those competitors offering similar products or
services, but also those offering products or services that may act as substitutes. For
example, cheaper restaurants now suffer considerable competition from supermarkets
selling high-quality, easily prepared ‘ready meals’ to eat at home as a substitute for
dining out.

Porter argues that the degree of competitiveness or rivalry within an industry depends on
the availability of substitutes, the strength of suppliers and buyers (customers), and the
threat of new entrants (which in turn depends on the ease of entry). Thus pharmaceutical
research, with its high entry costs, sophisticated technology and patent protection, has
low levels of rivalry and high margins and profitability. Only the growing power of
customers (health services) threatens this profitability. In the restaurant business, in
contrast, the entry barriers and start-up costs are low, customers have a wide choice and
therefore considerable bargaining power, and there is a range of substitutes. The
restaurant trade is highly competitive and margins and profitability are generally low.

Business analysis
The assignment is to research a specific industry and to analyse the external drivers that
affect that particular industry.
This is group assignment. So my part is to analyse the micro-external environment of the
existing organisation. The chosen organisation is NEXT. The elements of micro-external
environment to look at:
Porters 5 Forces
Threat of entry
Substitutes
Buyer/Supplier Power
Competitive rivalry

As this is a group assignment this part needs to be only 600 words.

This part is about the market, in which NEXT is.
Harvard method referencing

This assignment is in the strategic management.

The conclusion for my part should be regarding the attractiveness of industry NEXT is.

Porters Five Forces

1. The threat of substitute products

The existence of products outside of the realm of the common product boundaries
increases the propensity of customers to switch to alternatives:

• Buyer propensity to substitute

• Relative price performance of substitutes
• Buyer switching costs
• Perceived level of product differentiation
• Number of substitute product available in the market

2. The threat of the entry of new competitors

Profitable markets that yield high returns will draw firms. This results in many new
entrants, which will effectively decrease profitability. Unless the entry of new firms can
be blocked by incumbents, the profit rate will fall towards a competitive level (perfect
competition).

• The existence of barriers to entry (patents, rights, etc.)

• Economies of product differences
• Brand equity
• Switching costs or sunk costs
• Capital requirements
• Access to distribution
• Customer loyalty to established brands
• Absolute cost advantages
 • Learning curve advantages
• Expected retaliation by incumbents
• Government policies

3. The intensity of competitive rivalry

For most industries, the intensity of competitive rivalry is the major determinant of the
competitiveness of the industry.

• Sustainable competitive advantage through improvisation

4. The bargaining power of customers

The bargaining power of customers is also described as the market of outputs: the ability
of customers to put the firm under pressure, which also affects the customer's sensitivity
to price changes.

• Buyer concentration to firm concentration ratio

• Degree of dependency upon existing channels of distribution
• Bargaining leverage, particularly in industries with high fixed costs
• Buyer volume
• Buyer switching costs relative to firm switching costs
• Buyer information availability
• Ability to backward integrate
• Availability of existing substitute products
• Buyer price sensitivity
• Differential advantage (uniqueness) of industry products
• RFM Analysis

5. The bargaining power of suppliers

The bargaining power of suppliers is also described as the market of inputs. Suppliers of
raw materials, components, labor, and services (such as expertise) to the firm can be a
source of power over the firm. Suppliers may refuse to work with the firm, or, e.g.,
charge excessively high prices for unique resources.

• Supplier switching costs relative to firm switching costs

• Degree of differentiation of inputs
• Presence of substitute inputs
• Supplier concentration to firm concentration ratio
• Employee solidarity (e.g., labor unions)

Criticisms of the 5 Forces model

Porter's framework has been challenged by other academics and strategists such as
Stewart Neill. Similarly, the likes of Kevin P. Coyne and Somu Subramaniam have stated
that three dubious assumptions underlie the five forces:

• That buyers, competitors, and suppliers are unrelated and do not interact and
collude.
• That the source of value is structural advantage (creating barriers to entry).
• That uncertainty is low, allowing participants in a market to plan for and respond
to competitive behavior.

An important extension to Porter was found in the work of Brandenburger and Nalebuff
in the mid-1990s. Using game theory, they added the concept of complementors (also
called "the 6th force"), helping to explain the reasoning behind strategic alliances. The
idea that complementors are the sixth force has often been credited to Andrew Grove,
former CEO of Intel Corporation. According to most references, the sixth force is
government or the public. Martyn Richard Jones, whilst consulting at Groupe Bull,
developed an augmented 5 forces model in Scotland in 1993. It is based on Porter's
model and includes Government (national and regional) as well as Pressure Groups as the
notional 6th force. This model was the result of work carried out as part of Group Bull's
Knowledge Asset Management Organisation initiative.

It is also perhaps not feasible to evaluate the attractiveness of an industry independent of

the resources a firm brings to that industry. It is thus argued that this theory be coupled
with the Resource-Based View (RBV) in order for the firm to develop a much more
sound strategy.

[edit] See also

• Delta Model
• Six Forces Model

[edit] References
• Porter, M.E. (1979) "How competitive forces shape strategy", Harvard business
Review, March/April 1979.
• Porter, M.E. (1980) Competitive Strategy, Free Press, New York, 1980.

There is continuing interest in the study of the forces that impact on an organisation, particularly
those that can be harnessed to provide competitive advantage. The ideas and models which
emerged during the period from 1979 to the mid-1980s (Porter, 1998) were based on the idea
that competitive advantage came from the ability to earn a return on investment that was better
than the average for the industry sector (Thurlby, 1998).

As Porter's 5 Forces analysis deals with factors outside an industry that influence the nature of
competition within it, the forces inside the industry (microenvironment) that influence the way in
which firms compete, and so the industry’s likely profitability is conducted in Porter’s five forces
model. A business has to understand the dynamics of its industries and markets in order to
compete effectively in the marketplace. Porter (1980a) defined the forces which drive competition,
contending that the competitive environment is created by the interaction of five different forces
acting on a business. In addition to rivalry among existing firms and the threat of new entrants
into the market, there are also the forces of supplier power, the power of the buyers, and the
threat of substitute products or services. Porter suggested that the intensity of competition is
determined by the relative strengths of these forces.

Main Aspects of Porter’s Five Forces Analysis

The original competitive forces model, as proposed by Porter, identified five forces which would
impact on an organization’s behaviour in a competitive market. These include the following:

• The rivalry between existing sellers in the market.

• The power exerted by the customers in the market.
• The impact of the suppliers on the sellers.
• The potential threat of new sellers entering the market.
• The threat of substitute products becoming available in the market.

Understanding the nature of each of these forces gives organizations the necessary insights to
enable them to formulate the appropriate strategies to be successful in their market (Thurlby,
1998).

Force 1: The Degree of Rivalry

The intensity of rivalry, which is the most obvious of the five forces in an industry, helps determine
the extent to which the value created by an industry will be dissipated through head-to-head
competition. The most valuable contribution of Porter's “five forces” framework in this issue may
be its suggestion that rivalry, while important, is only one of several forces that determine industry
attractiveness.
• This force is located at the centre of the diagram;
• Is most likely to be high in those industries where there is a threat of substitute products; and
existing power of suppliers and buyers in the market.

Force 2: The Threat of Entry

Both potential and existing competitors influence average industry profitability. The threat of new
entrants is usually based on the market entry barriers. They can take diverse forms and are used
to prevent an influx of firms into an industry whenever profits, adjusted for the cost of capital, rise
above zero. In contrast, entry barriers exist whenever it is difficult or not economically feasible for
an outsider to replicate the incumbents’ position (Porter, 1980b; Sanderson, 1998) The most
common forms of entry barriers, except intrinsic physical or legal obstacles, are as follows:

• Economies of scale: for example, benefits associated with bulk purchasing;

• Cost of entry: for example, investment into technology;
• Distribution channels: for example, ease of access for competitors;
• Cost advantages not related to the size of the company: for example, contacts and expertise;
• Government legislations: for example, introduction of new laws might weaken company’s
competitive position;
• Differentiation: for example, certain brand that cannot be copied (The Champagne)

Force 3: The Threat of Substitutes

The threat that substitute products pose to an industry's profitability depends on the relative price-
to-performance ratios of the different types of products or services to which customers can turn to
satisfy the same basic need. The threat of substitution is also affected by switching costs – that
is, the costs in areas such as retraining, retooling and redesigning that are incurred when a
customer switches to a different type of product or service. It also involves:

• Product-for-product substitution (email for mail, fax); is based on the substitution of need;
• Generic substitution (Video suppliers compete with travel companies);
• Substitution that relates to something that people can do without (cigarettes, alcohol).

Force 4: Buyer Power

Buyer power is one of the two horizontal forces that influence the appropriation of the value
created by an industry (refer to the diagram). The most important determinants of buyer power
are the size and the concentration of customers. Other factors are the extent to which the buyers
are informed and the concentration or differentiation of the competitors. Kippenberger (1998)
states that it is often useful to distinguish potential buyer power from the buyer's willingness or
incentive to use that power, willingness that derives mainly from the “risk of failure” associated
with a product's use.

• This force is relatively high where there a few, large players in the market, as it is the case with
retailers an grocery stores;
• Present where there is a large number of undifferentiated, small suppliers, such as small
farming businesses supplying large grocery companies;
• Low cost of switching between suppliers, such as from one fleet supplier of trucks to another.

Force 5: Supplier Power

Supplier power is a mirror image of the buyer power. As a result, the analysis of supplier power
typically focuses first on the relative size and concentration of suppliers relative to industry
participants and second on the degree of differentiation in the inputs supplied. The ability to
charge customers different prices in line with differences in the value created for each of those
buyers usually indicates that the market is characterized by high supplier power and at the same
time by low buyer power (Porter, 1998). Bargaining power of suppliers exists in the following
situations:

• Where the switching costs are high (switching from one Internet provider to another);
• High power of brands (McDonalds, British Airways, Tesco);
• Possibility of forward integration of suppliers (Brewers buying bars);
• Fragmentation of customers (not in clusters) with a limited bargaining power (Gas/Petrol
stations in remote places).

The nature of competition in an industry is strongly affected by suggested five forces. The
stronger the power of buyers and suppliers, and the stronger the threats of entry and substitution,
the more intense competition is likely to be within the industry. However, these five factors are not
the only ones that determine how firms in an industry will compete – the structure of the industry
itself may play an important role. Indeed, the whole five-forces framework is based on an
economic theory know as the “Structure-Conduct-Performance” (SCP) model: the structure of an
industry determines organizations’ competitive behaviour (conduct), which in turn determines
their profitability (performance). In concentrated industries, according to this model, organizations
would be expected to compete less fiercely, and make higher profits, than in fragmented ones.
However, as Haberberg and Rieple (2001) state, the histories and cultures of the firms in the
industry also play a very important role in shaping competitive behaviour, and the predictions of
the SCP model need to be modified accordingly.

How to write a Good Porter's 5 Forces analysis

The Porter’s Five Forces model is a simple tool that supports strategic understanding where
power lies in a business situation. It also helps to understand both the strength of a firm’s current
competitive position, and the strength of a position a company is looking to move into. Despite the
fact that the Five Force framework focuses on business concerns rather than public policy, it also
emphasizes extended competition for value rather than just competition among existing rivals,
and the simpleness of its application inspired numerous companies as well as business schools
to adopt its use (Wheelen and Hunger, 1998).

With a clear understanding of where power lies, it will enable a company to take fair advantage of
its strengths, improve weaknesses, and avoid taking wrong steps. Therefore, to apply this
planning tool effectively, it is important to understand the situation and to look at each of the
forces individually.

In conducting an analysis of Porter’s Five Forces, it is required to brainstorm all relevant factors
for the company’s market situation, and then check against the factors presented for each force in
the diagram above. The next step is to highlight the key factors on a diagram, and summarize the
size and the scale of the force on the diagram. It is suggested to use signs, as for instance, “+”
and “--" signs for the forces moderately in company’s favor, or for a force strongly against.

After identifying favourable and unfavourable forces for the company’s performance and
industry’s attractiveness, it is important to analyse the situation and examine the impacts of the
forces. One of the critical comments made of the Five Forces framework is its static nature,
whereas the competitive environment is changing turbulently. Are the five forces able to foresee
industry expansion? Is it the corporate strategist's goal to find a position in the industry where his
or her company can best defend itself against these forces or can influence them in its favour, or
is the goal to become part of the ongoing commerce with the intention to produce innovative
ideas that will expand the size of the industry? Is it true that the environment poses a threat to the
organisation, leading to the consideration of suppliers and buyers as threats that need to be
tackled, or does it offer the ground for a constitutive industry player co-operation?
By thinking through how each force affects a company, and by identifying the strength and
direction of each force, it provides with an opportunity to identify the strength of the position and
the ability to make a sustained profit in the industry (Mind Tools, 2006).

Limitations of Porter’s Five Force Model

Porter’s model is a strategic tool used to identify whether new products, services or businesses
have the potential to be profitable. However it can also be very illuminating when used to
understand the balance of power in other situations.

Porter argues that five forces determine the profitability of an industry. At the heart of industry are
rivals and their competitive strategies linked to, for example, pricing or advertising; but, he
contends, it is important to look beyond one’s immediate competitors as there are other
determines of profitability. Specifically, there might be competition from substitutes products or
services. These alternatives may be perceived as substitutes by buyers even though they are
part of a different industry. An example would be plastic bottles, cans and glass bottle for
packaging soft drinks. There may also be potential threat of new entrants, although some
competitors will see this as an opportunity to strengthen their position in the market by ensuring,
as far as they can, customer loyalty. Finally, it is important to appreciate that companies purchase
from suppliers and sell to buyers. If they are powerful they are in a position to bargain profits
away through reduced margins, by forcing either cost increases or price decreases. This relates
to the strategic option of vertical integration, when the company acquires, or mergers with, a
supplier or customer and thereby gains greater control over the chain of activities which leads
from basic materials through to final consumption (Luffman and et al., 1996; Wheelen and
Hunger, 1998).

It is important to be aware that this model has further limitations in today's market environment;
as it assumes relatively static market structures. Based originally on the economic situation in the
eighties with its strong competition and relatively stable market structures, it is not able to take
into account new business models and the dynamism of the industries, such as technological
innovations and dynamic market entrants from start-ups that will completely change business
models within short times. For instance, the computer and software industry is often considered
as being highly competitive. The industry structure is constantly being revolutionized by
innovation that indicates Five Forces model being of limited value since it represents no more
than snapshots of a moving picture. Therefore, it is not advisable to develop a strategy solely on
the basis of Porter’s models (Kippenberger, 1998; Haberberg and Rieple, 2001), but to examine it
in addition to other strategic frameworks of SWOT and PEST analysis.
Nevertheless, that does not mean that Porters theories became invalid. What needs to be done is
to adopt the model with the knowledge of their limitations and to use them as a part of a larger
framework of management tools, techniques and theories. This approach, however, is advisable
for the application of every business model (Recklies, 2001).

Porter's Six Forces model and its relationship to the standard Five Forces model

Porter’s Five Forces model actually has an extension referred to as Porter’s Six Forces model. It
is considerably less popular than the Five Forces model as its acceptance has been less positive
than the Five Forces model. The Six Forces model though is very similar to the Five Forces
model with the only difference being the addition of the sixth force in the framework. This sixth
force in the model is termed as the relative power of other stakeholders, and can refer to a
number of other groups or entities, depending on the factor which has the greatest influence
including:
• Complementors – One school of thought looks at the sixth force to be complementors, which
are businesses offering complementary products to the sector in focus and being analysed
(Grove 1996). The author states that these complementary businesses, as a sixth factor, affect
the industry as changes in these businesses (such as new techniques, approaches or
technologies) can impact on the dynamics between the industry and the complementors.
• The government – The sixth force in the framework can also be considered to be the
government, and is included in the framework if it has potential to impact on all the other five
forces (Gordon, 1997). Thus, the government can have direct impact in the industry as the sixth
force, but can also have indirect impact or influence by affecting the other five forces, whether
favourably or unfavourably.
• The public – Yet other viewpoints look at the public as the sixth force in the model, particularly
if the public has a strong influence in the dynamics of the sector resulting in changes to the other
forces or in the sector as a whole.
• Shareholders – This group can also be considered potentially as the sixth force. This is more
important in recent years where shareholder activity has increased significantly in the boardroom,
and management of firms has been scrutinised much more and even given ‘threats’ if certain
actions favoured by the shareholders were not pursued.
• Employees – Employees could also be considered as the sixth force if they wielded
extraordinarily strong influence on the firm in a particular sector. The status of employees seems
to follow similar rules in certain sectors, and thus could be considered a strong influence in these
sectors. For example, in the automobile sector in the US, a large part of the work force are
unionised, and thus could be considered the sixth force instead of the government or
complementors.
While a sixth force has been added to Porter’s original Five Forces model, the acceptance of this
framework has been somewhat limited. This could be for two reasons. First, is that there is no
definite and specific sixth force in all sectors, as it is different for each sector. Second, while a
sixth force could be defined for all sectors, the influence of this factor can also be captured in the
other five forces and thus the necessity of having it in the framework is less compelling.

Where to find information for Porter's 5 Forces analysis

In conducting the analysis it is crucial to examine the existing literature:

• Periodicals, business articles on the industry performance, etc;

• Analyst reports and trade organisations;
• Company annual reports and its publications on the main suppliers an distribution network;
• Anything that will give the exposure to the market situation, competitors present in the market,
new emerging companies in the industry.

It is important to make sure that the sources are reliable and relevant to the current condition of
the industry. It has to be viable, reliable and valid, in order to make conduct a good analysis of the
model. For this purpose, the gathered data and information has to be checked and be applied to
the current business conditions. Further limitations could be present in the nature of market
forces that reduce the applicability of the information sources to present situations; and the
amount of detailed information required. This can be prohibitive to its practical use. For example,
the level of competitor information required is very detailed and may not always be available.

Conclusion

Any company must seek to understand the nature of its competitive environment if it is to be
successful in achieving its objectives and in establishing appropriate strategies. If a company fully
understands the nature of the Porter’s five forces, and particularly appreciates which one is the
most important, it will be in a stronger position to defend itself against any threats and to influence
the forces with its strategy. The situation is fluid, and the nature and relative power of the forces
will change. Consequently, the need to monitor and stay aware is continuous.

Some issues during the implementation of these Five Forces are crucially important for
organizations to build long-term business strategy and sustaining competitive advantages rather
than simply list the forces. Successful use of the Porter Model Analysis includes identifying the
sources of competition, the strength and likelihood of that competition existing, and strategic
recommendations for the action a company should take to in order to develop barriers to
competition.

If you found this article useful please have a look at the other articles we have written: PEST
analysis, SWOT analysis, Ansoff analysis, BCG Growth-Share Matrix, Porter's Generic
Strategies, Scenario Planning, Value chain analysis.
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