The Porter’s Five Forces model was developed in 1979 by Michael Porter, and is an essential framework for developing business strategy and conducting industry analysis.
The model outlines the five forces that determine the degree of competition (and therefore, attractiveness) of a particular market. Attractiveness, in this context, refers to the industry’s overall profit potential. Those five forces are:
- Threat of new entrants
- Threat of substitution
- Buyer power
- Supplier power
- Competitive rivalry
In this blog, Tommy Shek discusses how a business can establish each of the above forces:
Tommy Shek Discusses the Threat of New Entrants:
‘Threat of new entrants’ refers to the ease (or lack of ease) with which new players can make their way into the market. According to Tommy Shek, the below factors can help determine the degree of this threat:
- Level of market regulation
- The complications involved in manufacturing and distributing the product/service
- Presence of legal barriers (Intellectual Property, for instance)
- The way in which existing players would respond to a new entrant
- The current barriers to entry
- Whether new players have recently entered the market (and, if so, how)
Tommy Shek Discusses the Threat of Substitution:
In this section, businesses are required to determine how replaceable the industry’s product or service is. Once again, the point-of-discussion is not how your business product can be replaced with a competitor’s product, but how easily the product being offered by the industry itself can be replaced. Tommy Shek uses the example of phones: in the 1980s, every household had a landline; today, landlines are close to extinction.
In a lot of cases, there already are products that can affect the overall industry profitability, which means that this section should analyze the quality, ease, cost, and potential of those substitutes. If you are fortunate enough to be in an industry that has no substitutes, you must determine the factors that might bring about a substitute – such as:
- The presence of a substitute
- The switching cost for the customer
- The level of brand loyalty within the industry
- How does the industry service or product compete
Tommy Shek Discusses Buyer Power:
At this point, you need to analyze the power that your customers hold. This analysis will help you determine how much your customer can influence the price of your offering.
Tommy Shek lists down the factors that can help you analyze buyer power:
- The number of alternate options available
- The switching cost for the buyer
- Average length of customer contracts
- The level of knowledge that your customers have about the product
- The price-sensitivity of your product
- How much of your product do customers purchase?
- The degree of brand loyalty
Tommy Shek Discusses Supplier Power:
List down all your suppliers, and then consider their power and influence over your business. What kind of pressure they can impose on your business, and to what degree. The below factors will help:
- The number of suppliers for the service or product that you sell
- The switching cost for your business
- Can your supplier afford to lose you as a customer?
- The uniqueness of the product that they supply
Tommy Shek Discusses Competitive Rivalry:
By the time you reach the final section, you understand the threat of new market entrants, as well as the power of both your buyers and suppliers. Therefore, it is now time for you to assess the degree of competitive rivalry within the marketplace.
Factors to consider:
- The number of direct competitors
- The size of the marketplace (is it large enough to have multiple successful operators?)
- The growth prospects of the industry
- The likelihood of M&As (Mergers and Acquisitions) within the industry
- The presence and extent of exit barriers
- Have your competitors defeated you in the past? If so, why?
Final Word:
Once you have completed your analysis, pinpoint your strengths or competitive edges, identify any concerns, and try to understand the bigger picture that the analysis is painting regarding your business’ growth and future prospects.