Business
Porters Five Forces
Porter's Five Forces is a framework used to analyze the competitive environment of an industry. It examines the bargaining power of suppliers and buyers, the threat of new entrants, the threat of substitute products or services, and the intensity of competitive rivalry. By assessing these forces, businesses can understand the attractiveness and profitability of an industry.
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10 Key excerpts on "Porters Five Forces"
eBook - PDFValuation of Internet and Technology Stocks
Implications for Investment Analysis
- Brian Kettell(Author)
- 2002(Publication Date)
- Butterworth-Heinemann(Publisher)
The objective of such a study is to use this to develop the competitive advantage of an organization in its ability to defeat its rival companies. This type of analysis is often undertaken using the structure proposed by Porter. His basic model is illustrated in Figure 5.1. This is often called Porter’s Five Forces Model because he identifies five basic forces that can act on the organization: the bargaining power of suppliers the bargaining power of buyers the threat of potential new entrants the threat of substitutes the extent of competitive rivalry. The objective of such an analysis is to investigate how the organization needs to form its strategy in order to develop opportunities in its environment and protect itself against competition and other threats. Potential entrants Threat of new entrants Substitutes Threat of substitute products or services Suppliers Bargaining power of suppliers Buyers Industry competitors Rivalry among existing firms Bargaining power of buyers 78 Valuation of Internet and Technology Stocks The bargaining power of suppliers Virtually every organization has suppliers of raw materials or services, which are used to produce the final goods or services. Porter suggested that suppliers are more powerful under the following conditions: (1) If there are only a few suppliers . This means that it is difficult to switch from one to another if a supplier starts to exert its power. (2) If there are no substitutes for the supplies they offer. This is especially the case if the supplies are important for techni-cal reasons – perhaps they form a crucial ingredient in a production process or the service they offer is vital to smooth production. (3) If suppliers’ prices form a large part of the total costs of the organization. Any increase in price would hit value added unless the organization was able to raise its own prices in compensation. (4) If a supplier can potentially undertake the value-added process of the organization.
eBook - ePub- George Stonehouse, Bill Houston, David Campbell(Authors)
- 2003(Publication Date)
- Routledge(Publisher)
Figure 7.1 ) it is important to identify which of the five forces are the key forces at work in an industry at any given point in time. In many cases, it transpires that one or more of the five forces prove to be ‘key forces’ and the strategic analysis must focus on these if it is to use the framework fruitfully. The dynamic nature of the competitive environment (meaning that it is constantly changing) means that the relative strength of the forces in a particular industry will change over time. It is therefore important that the five forces analysis is repeated on a regular basis so as to detect such changes before competitors and allow an early adjustment of strategy. Before any conclusions can be drawn about the nature of competition within an industry each of the five forces must be analysed in detail.We will now discuss each of the five forces in turn.Figure 7.1 Porter's five forces framework (adapted from Porter, 1980).Force 1: The threat of new entrants to the industry
The threat of entry to an industry by new competitors depends upon the ‘height’ of a number of entry barriers. As a rule of thumb, the lower the entry barriers to an industry are, the more competitors will be players in the industry. Barriers to entry can take a number of forms.The capital costs of entry
The size of the investment required by a business wishing to enter the industry will be an important determinant of the extent of the threat of new entrants. The higher the investment required, the less the threat from new entrants. The lower the required investment, the greater the threat.Regulatory and legal constraints
Industry regulation varies. Some industries, such as energy, pharmaceuticals and defence equipment, are subject to a complex regulatory framework whereas others are less so. In some industries, regulation concerns health and safety, product handling and licences to operate, export, set up new facilities, etc. Each regulatory or legal permission or restriction is capable of acting as a barrier to entry.
eBook - PDFStrategic Management
Concepts and Cases
- Jeffrey H. Dyer, Paul C. Godfrey, Robert J. Jensen, David J. Bryce(Authors)
- 2020(Publication Date)
- Wiley(Publisher)
Five Forces that Shape Average Profitability Within Industries Michael Porter, a well-known strategy professor at Harvard, identified five forces that shape the profit-making potential of the average firm in an industry. As shown in Figure 2.2, those five forces are (1) rivalry, (2) buyer power, (3) supplier power, (4) threat of new entrants, and (5) threat of substitute products. The strength of each of these five forces (known as Porter’s five forces 15 ) varies widely from industry to industry. For instance, in the semiconductor industry, the threat of substitutes is almost nonexistent, while in the carbonated soft drink industry it is a significant threat. A careful analysis of the five forces is a powerful way for firms to discover the threats and opportunities in their environments. We provide a tool at the end of this chap- ter to help you conduct a careful analysis of an industry’s five forces. There are three basic steps involved in using the five forces analysis tool: • Step 1: Identify the specific factors relevant to each of the five major forces. We describe the factors that contribute to each of the five forces in the next five sections of this chapter. • Step 2: Analyze the strength of each force. To what extent is it shaping the industry’s attractiveness? The appendix at the end of the book lists several sources where you might find the data you need to analyze each of the five forces. • Step 3: Estimate the overall strength of the combined five forces to determine the general attractiveness of the industry, the profit potential for an average firm in the industry. Instructions for steps 2 and 3 are at the end of the chapter. Step 1, the factors relevant to each of the five forces, is discussed next. Rivalry: Competition Among Established Companies Competition in an industry is sometimes referred to as war, with each company deploying as many weapons in its arsenal as possible to gain greater profits.
eBook - ePubStrategic Management
A Critical Introduction
- Richard Godfrey(Author)
- 2015(Publication Date)
- Routledge(Publisher)
On the basis of these claims, Porter developed a series of strategy tools and frameworks that he believed would assist senior managers in achieving sustainable competitive advantage: industry analysis (1980); generic strategies (1980), and the value chain (1985). In the next part of this chapter we will look at each in more detail.Industry analysisOn the basis of a large-scale quantitative survey of hundreds of different industries undertaken by IO economists, Porter suggests that there are consistently five underlying competitive forces that are present in every industry and which determine the structure of that industry. The relative strength of these five forces will determine how attractive (profitable) the industry will be. While other variables such as the distinction between product/service offerings, the industry life cycle, technological innovation, etc., can influence profitability in the short run, none of these remain constant over time or across industries.As outlined in Figure 6.1 , Porter’s five forces constitute both a horizontal and a vertical dimension of competition. The horizontal dimension replicates the manufacturing process from the acquisition of raw materials through production and selling. At each stage there are forces that can be either powerful or weak – these are represented as the power of the suppliers to the industry, the competitive rivalry among existing firms competing in the industry, and the power of the buyers who acquire or consume the offerings. In each relationship the firm competes with these forces to retain value. Thus, it competes with its suppliers who seek to raise prices up on the industry or drive quality and quantity down, it competes with rivals for a share of the value created in the industry, and it competes with buyers who will always try to pay less for more. On the vertical dimension Porter identifies the forms of competition that can take profitability away form the current industry – these come from the threat of new entrants, that might disrupt the current competitive forces, and from the threat of substitute
eBook - PDF- David Besanko, David Dranove, Mark Shanley, Scott Schaefer(Authors)
- 2014(Publication Date)
- Wiley(Publisher)
Although the roots of these fields can be traced back a century or more, they had little impact on business strategy until Michael Porter published a series of articles in the 1970s that culminated in his pathbreaking book Competitive Strategy . The book presents a convenient framework for exploring the economic factors that affect the profits of an industry. Porter’s main innovation is to classify these factors into five major forces that encompass the vertical chain and market competition. In their book Coopetition , Brandenberger and Nalebuff make a significant addition to the five-forces framework. They describe the firm’s “Value Net,” which includes suppliers, distributors, and competitors. Whereas Porter describes how suppliers, I NDUSTRY A NALYSIS 8 Performing a Five-Forces Analysis • 259 distributors, and competitors might destroy a firm’s profits, Brandenberger and Nalebuff’s key insight is that these firms often enhance firm profits. In other words, strategic analysis must account for both coop eration and com petition . This chapter shows how to perform a five-forces industry analysis that accounts for the economic principles in Parts One and Two. It also shows how to accommodate the Value Net principles introduced by Brandenberger and Nalebuff. We illustrate these ideas by examining four very different markets: hospitals, professional sports, airframe manufacturing, and executive search services. We selected these markets both because they present a diversity of competitive forces and because we have a strong institutional understanding of each. Indeed, solid industry analysis is not possible without such understanding. Before presenting the five-forces framework, it is important to note its limita-tions. First, it pays limited attention to factors that might affect demand.
eBook - ePubStrategic Thinking
Today’s Business Imperative
- Irene M. Duhaime, Larry Stimpert, Julie Chesley(Authors)
- 2012(Publication Date)
- Routledge(Publisher)
As the intensity of forces increases, the industry environment becomes more hostile and average industry performance will suffer.- Finally, both SWOT Analysis and the Five Forces Model are static frameworks. Users must recognize that most industry environments can be quite dynamic, and that any conclusions based on these models may not be appropriate in the future.
Key Questions for Managers
- What are the major strengths and weaknesses of your firm? What are the key opportunities and threats in your firm’s external environment?
- Have you and your colleagues discussed differences of opinion about your company’s strengths and weaknesses as well as the environment’s opportunities and threats? What accounts for differences in your interpretations of strengths and weaknesses; opportunities and threats?
- Have you analyzed your firm in terms of the five forces in Porter’s Five Forces Model? What options are available for minimizing the strength of each of the five forces?
- Have you considered how possible changes in the competitive environment will alter any of the five forces? What forces that are favorable today are likely to become more intense in the future?
Suggestions for Further Reading
- Additionally, links to further resources online—such as cases, articles, and videos—can be found on the book’s website, www.routledge.com/textbooks/Duhaime .
- Adams, W., & Brock, J. 1990. The Structure of American Industry (9th ed.). Englewood Cliffs, NJ: Prentice-Hall.
- Hamel, G., & Prahalad, C. K. 1989. Strategic intent. Harvard Business Review , 673): 63–76.
- Hamel, G., & Prahalad, C. K. 1994. Competing For the Future . Boston: Harvard Business School Press.
- McGahan, A. M., & Porter, M. E. 1997. How much does industry matter, really? Strategic Management Journal , 18 (special issue): 15–30.
- Miniter, R. 2002. The Myth of Market Share: Why Market Share is the Fool’s Gold of Business . New York: Crown Business.
- Porter, M. E. 1980. Competitive Strategy.
eBook - ePubPublic Sector Strategy Design
Theory and Practice for Government and Nonprofit Organizations
- David E. McNabb, Chung-Shing Lee(Authors)
- 2020(Publication Date)
- Routledge(Publisher)
PART IIFrameworks for Designing Strategy
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4 THE COMPETITIVE FORCES FRAMEWORKThe competitive forces framework (also known as the strategic positioning approach or as Porter’s five forces approach) to strategic management developed. Credit for introducing the framework is given to Michael Porter, who in 1979 and 1980 emphasized the importance of managing an organization’s value chain and adoption of a competitive positioning in the marketplace. The five forces that Porter said make up an organization’s competitive environment are: (1) the firm’s competitive rivalry, (2) the power of its suppliers, (3) the power of buyers of the organization’s goods or services, (4) the threat of substitute products, and (5) the threat of new suppliers entering the market. The five forces are all external environment factors. Porter then named four types of generic strategies that organizations adopt to deal with these forces: differentiation, cost leadership, cost focus, and differentiation focus. Many alternative strategies have been added since the 1980s, including a combination strategy, innovation strategy, technology strategy, learning strategy, and others.Writing on game theory as studied in economics, Samuelson and Nordhaus (1985) saw the variety in the paths followed by researchers in the social sciences as different not so much by what the researchers studied, but by how they studied their subject. The same idea can help explain the differences in the organizing frameworks preferred by researchers in public sector management. The framework followed for several decades beginning in the 1970s was patterned after the private sector’s competitive advantage concept and how to adjust operating in a competitive environment to public sector operations.The competitive forces framework was developed as a means of analyzing the competitive environment faced by a firm in a given industry. The approach has also been modified for use for in-depth analysis of a public sector organization’s operation environment. In both applications, designing strategy using the Porter five forces framework is generally conducted after a SWOT environmental analysis. The applications process includes the following seven steps.
eBook - ePub- Harvard Business Review, Michael E. Porter, W. Chan Kim, Renée A. Mauborgne(Authors)
- 2011(Publication Date)
- Harvard Business Review Press(Publisher)
The Five Competitive Forces That Shape Strategyby Michael E. PorterIN ESSENCE, THE JOB of the strategist is to understand and cope with competition. Often, however, managers define competition too narrowly, as if it occurred only among today’s direct competitors. Yet competition for profits goes beyond established industry rivals to include four other competitive forces as well: customers, suppliers, potential entrants, and substitute products. The extended rivalry that results from all five forces defines an industry’s structure and shapes the nature of competitive interaction within an industry.As different from one another as industries might appear on the surface, the underlying drivers of profitability are the same. The global auto industry, for instance, appears to have nothing in common with the worldwide market for art masterpieces or the heavily regulated health-care delivery industry in Europe. But to understand industry competition and profitability in each of those three cases, one must analyze the industry’s underlying structure in terms of the five forces. (See “The five forces that shape industry competition .”)If the forces are intense, as they are in such industries as airlines, textiles, and hotels, almost no company earns attractive returns on investment. If the forces are benign, as they are in industries such as software, soft drinks, and toiletries, many companies are profitable. Industry structure drives competition and profitability, not whether an industry produces a product or service, is emerging or mature, high tech or low tech, regulated or unregulated. While a myriad of factors can affect industry profitability in the short run—including the weather and the business cycle—industry structure, manifested in the competitive forces, sets industry profitability in the medium and long run. (See “Differences in Industry Profitability
eBook - ePubStrategic Management
Theory and Practice
- John A. Parnell(Author)
- 2013(Publication Date)
- SAGE Publications, Inc(Publisher)
The industry life cycle stage should also be identified. As discussed in future chapters, changes in firm- and business-level strategies may be necessary as the industry evolves. Understanding the stage is an important precursor to developing appropriate strategies.The importance of clarifying the industry definition at the outset cannot be overstated. External environmental forces that affect the industry cannot be assessed realistically without a clear definition. In addition, a firm’s relative strengths and weaknesses can be classified as such only when compared to other companies in the industry.Industry Structure ____________________________
Factors associated with industry structure can play a dominant role in the performance of many companies with the exception of those that are their notable leaders or failures.10 As such, one needs to understand these factors at the outset before delving into the characteristics of a specific firm. Michael Porter, a leading authority on industry analysis, proposed a systematic means of analyzing the potential profitability of firms in an industry known as Porter’s five forces model.11 According to Porter, an industry’s overall profitability (i.e., the combined profits of all competitors) depends on five basic competitive forces, the relative weights of which vary by industry (see Figure 3.2):- The intensity of rivalry among incumbent firms
- The threat of new competitors entering the industry
- The threat of substitute products or services
- The bargaining power of buyers
- The bargaining power of suppliers
These five factors combine to form the industry structure, and they suggest (but do not guarantee) profitability prospects for firms that operate in the industry. Each of the factors will be discussed in greater detail.
eBook - PDF- Charles Hill, Gareth Jones(Authors)
- 2011(Publication Date)
- Cengage Learning EMEA(Publisher)
For example, there is no close substitute for microprocessors, which gives companies like Intel and AMD the ability to charge higher. Porter’s Model Summarized The systematic analysis of forces in the industry environment using the Porter frame-work is a powerful tool that helps managers to think strategically. It is important to recognize that one competitive force often affects the others, so that all forces need to be considered and thought about when performing industry analysis. Indeed, in-dustry analysis leads managers to think systematically about the way their strategic choices will both be affected by the forces of industry competition and how their choices will affect the five forces and change conditions in the industry. For an ex-ample of industry analysis using Porter’s framework, see the Running Case. Strategic Groups within Industries Companies in an industry often differ significantly from each other with respect to the way they strategically position their products in the market in terms of such fac-tors as the distribution channels they use, the market segments they serve, the quality of their products, technological leadership, customer service, pricing policy, advertis-ing policy, and promotions. As a result of these differences, within most industries, it is possible to observe groups of companies in which each company follows a strategy that is similar to that pursued by other companies in the group, but different from the strategies followed by companies in other groups. These different groups of com-panies are known as strategic groups . 12 Normally, the basic differences between the strategies that companies in different strategic groups use can be captured by a relatively small number of strategic fac-tors. For example, in the pharmaceutical industry, two main strategic groups stand out (see Figure 3.2).
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