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The Porter model of competitive industry structure: Porters 5 forces

New entrants Threat of new entrants

Bargaining power of suppliers Suppliers

Intensity of rivalry Industry competitors

Bargaining power of buyers Buyers

Threat of substitutes

Substitutes

Purpose: The purpose of this analysis is to evaluate the attractiveness of an industry / the profitability of an industry. This analysis might be relevant for a new firm before entering in order to decide on the best competitive strategy, most realistic budgets etc. or in order to decide not to enter existing firms in order to decide on the best competitive strategy, most realistic budgets etc the government in order to monitor the competitive situation as background information for competition policies, regulations etc Starting point: You should always start by defining the industry. In order to make a proper analysis (i.e. to find the number of firms, number and closeness of substitutes, the nature of the product etc) it is important to know the product / product group geographic area (a region, a country, a group of countries etc notice that imported products also belong to the industry) You should also make sure that you know the buyers (BTC or BTB) Conclusion: After analysing a force you should conclude and relate to the overall purpose, i.e. how is the conclusion affecting the overall attractiveness of the industry. intensity of rivalry the higher intensity the less attractive is the industry new entrants the greater threats from new entrants the less attractive is the industry substitutes the greater threats from substitutes the less attractive is the industry

suppliers the higher bargaining power the less attractive is the industry buyers the higher bargaining power the less attractive is the industry Finally you should make an overall conclusion about the attractiveness / profitability of the industry (the analyses of the individual forces might point in different directions so you should evaluate the importance of the forces) Factors that might be relevant to look at when analysing the forces: You should never look into all bullet points below only those relevant for the industry in question Intensity of rivalry / degree of competition The concentration of the industry (i.e. number of firms, concentration ratios, price elasticity of demand)) The rate of market growth (income elasticity of demand) Degree of differentiation (the nature of the product: homogeneous or differentiated, price elasticity of demand) Profit-margin (illustrates firms control over prices / market power) Structure of costs Switching costs Exit barriers Illustrate the competitive situation by using the relevant price model plus related theories from economics. Substitutes Buyers willingness to substitute (cross price elasticity) The relative price and performance of substitutes The costs of switching to substitutes Suppliers The suppliers have high bargaining power when Few suppliers and many firms in the industry Unique or differentiated products from suppliers Suppliers threaten to integrate forwards into the industry and the industry does not threaten to integrate backward into supply The industry is not a key customer group to the suppliers Buyers The buyers have high bargaining power when Few dominant buyers and many firms in the industry Buyers purchase in large volumes The product is homogeneous / standard product Buyers earn low profit (BTB) / buyers have low income (BTC: income elasticity) The industry is not a key supplying group for the buyers Buyers threaten to integrate backward into the industry and the industry does not threaten to integrate forwards.

New entrants If entry barriers exist firms in the industry can produce with more than normal profit in the long run. Different barriers to entry: Environmental factors Economies of scale (natural monopoly) High entry and exit costs / capital requirements Trade restrictions (national monopoly) High transportation costs (local monopoly) High switching costs (might exist because of the policy of the monopoly / oligopoly firm) Other legal protection The policy of the monopoly / oligopoly firm Product differentiation / brand identity (discriminating monopoly, top priority to advertising/ quality, design etc.) Lower costs for a established firm / absolute costs advantages (top priority to developing new technology in the process of production) Ownership of, or control over, key factors of production (top priority to vertical integration backward) Ownership of, or control over, wholesale or retail outlets / access to distribution channels (top priority to vertical integration - forward) Mergers and take-overs / expected retaliation Aggressive tactics / expected retaliation (top priority to pricing policy) Intimidation