Porter’s Five Forces Model
Analyzing the competition is one of the best ways to identify threats to a business and figure out how to address them. Additionally, knowing the competition and how their plans or actions are likely to affect their own business is essential since, to a large extent, such knowledge determines the success of a business and future planning. One way for a business to evaluate competition is by using Porter’s Five Forces model. The approach emphasizes on five factors such as the intensity of rivalry among competitors, the threat of new entrants, the bargaining power of suppliers, the bargaining power of buyers, and the threat of substitute products which tend to determine a firm’s success.
The Intensity of Rivalry among Competitors
It is harder for an organization to be significantly profitable in an extremely competitive environment compared to when the competition is weak. Rivalry is influenced by various factors. For example, it is majorly influenced by various industry characteristics, such as the number of firms that share a similar market. A corporation that operates in a market that has many big firms, must compete for the same resources and customers with the others (Dobbs, 2014). Low switching costs also tend to intensify rivalries among competitors since when customers can freely switch from one product to another, firms struggle to retain their clients. Additionally, slow market growth increases competition among firms. In a slowly growing market, diverse firms can improve revenue in the expanding market to acquire a competitive edge over smaller firms, thus making it hard for smaller corporations to thrive.
The Threat of New Entrants
This force determines how easy or difficult it is for a business to acquire a competitive advantage in a market. The easier it is for an organization to enter a marketplace that has an intensive rivalry, the greater the risk of the firm’s market share being depleted. On the other hand, some market settings or factors such as lack of access to inputs may impede a start-up from penetrating the market (Porter, 2008). Therefore, prospective investors should consider these factors before setting up a business in a given market.
Bargaining Power of Suppliers
Supplier bargaining power regards how easily a supplier can influence the cost of inputs. The ease or difficulty of suppliers dictating the price of inputs depends on the number of suppliers in the market, the quality of their inputs, and how much switching from one supplier to another may cost a company. Thus, the fewer the number of suppliers, the more a firm will depend on them. As such, the supplier will likely hold enough power to drive up the input costs and push for a competitive advantage in the market. Conversely, the presence of many suppliers in the market implies low switching and input costs, which offers firms a conducive environment to increase its profits (Porter, 2008). As such, it is riskier to set up a business in a market with scarce suppliers than many.
Bargaining Power of Buyers
This force examines the ability of customers to drive products’ prices down. It is characterized by the number of a firm’s customers, how important each is, and how much it would cost the enterprise to find new customers. Therefore, an organization should acquire a small and powerful customer base to charge higher prices to increase its profitability. On the contrary, a large customer base that has low purchasing power forces companies to produce a large number of low-cost goods, which are not of good quality. Such an approach is neither efficient nor very profitable.
The Threat of Substitute Products
A business needs to produce products that have no close substitutes to increase its profitability to hold a competitive advantage over the competitors. When close substitutes are available, customers can forego a firm’s products for cheaper products (Bruijl, 2018). Consequently, the profits of the organization that loses customers to reduce.
A firm needs to understand Porter’s Five Forces and how they apply to the industry. Essentially, considering the five allows enterprises to adjust their corporate strategies and use their resources to generate higher earnings. The force can also inform enterprises’ decisions on whether to or not to enter a given market place. Besides, organizations can use the forces to determine whether to increase their capacity in a specific industry.
Bruijl, G. H. T. (2018). The Relevance of Porter’s Five Forces in Today’s Innovative and Changing Business Environment. Retrieved from https://papers.ssrn.com/sol3/papers.cfm?abstract_id=3192207
Dobbs, M. E. (2014). Guidelines for Applying Porter’s Five Forces Framework: A Set of Industry Analysis Templates. Competitiveness Review, 24(1), 32-45. Retrieved from https://www.uniba.it/docenti/somma-ernesto/CR0620130059.pdf
Porter, M. E. (2008). The Five Competitive Forces That Shape Strategy. Harvard Business Review, 86(1), 25-40. Retrieved from http://www.academia.edu/download/32580687/HBR_on_Strategy.pdf#page=25