Assessing the Impact of Specific Environmental Factors
A useful tool in this context is the five forces model developed by Professor Michael Porter of Harvard University. This seeks to analyse the immediate factors affecting an organisation by classifying them into five types. In the examination you should be prepared to apply this analysis to the scenario of a specific organisation.
4.1 Porter’s 5 Forces Model
Porter explains that there are five competitive forces inherent in a market which jointly determine the intensity of competition and profitability of a company. These five forces reflect the underlying structure of the market and will be discussed separately. They are distinct from the short run fluctuations that can affect market behaviour such as supply shortages, tax changes, strikes, etc. The five competitive forces are: 1. Threats posed by new entrants 2. Threats posed by substitutes 3. Bargaining power of Buyers 4. Bargaining power of Suppliers 5. Degree of competitive rivalry
Prepared by Dr. Eric LAU
Porter’s 5 Forces
BARRIERS TO ENTRY 1. Economies of scale 2. Other cost advantages 3. Capital requirements 4. Access to distribution 5. Patents, government policy 6. Reactions of existing firms NEW ENTRANTS POWER GREATEST WHERE 1. Concentration of buyers 2. Alternative sources of supply exist 3. Cost of purchase is high proportion of total trade 4. Threat of backward integration 5. Low switching costs 6. Buyers have low profits 7. Buyers have full POWER GREATEST WHERE 1. Few suppliers 2. Few substitutes 3. Switching costs are high 4. Possibility of integrating forward 5. Customer not significant 6. Supplier's product differentiated 1. Competitors are of similar size 2. Slow growth in market 3. High fixed costs – price wars to maintain turnover 4. Lack of differentiation 5. High exit barriers
1. Which barriers exist 2. To what extent do they limit entry 3. Are we trying to get in or keep others out
POWER OF BUYERS
RIVALRY AMONGST COMPETITORS
POWER OF SUPPLIERS
1. Can we find new markets for our products 2. To what extent is there a danger 3. Can it be minimised by differentiation or low cost
Prepared by Dr. Eric LAU
4.2 Threat of Entry
New entrants into a market will bring extra capacity and intensify competition. The threat from new entrants will depend upon the strength of the barriers of entry and the likely response of existing competitors to a new entrant. Barriers to entry are factors that make it difficult for a new entrant to gain an initial foothold in a market. There are six major sources of barriers to entry: 1. Economies of scale, where the industry is one where unit costs decline significantly as volume increases, such that a new entrant will be unable to start on a comparable cost basis e.g. automobile manufacturing. 2. Product differentiation, where established firms have good brand image and customer loyalty; the costs of overcoming this can be prohibitive e.g. Apple Computer. 3. Capital requirements, where the industry requires a heavy initial investment e.g. steel industry, rail transport. 4. Switching costs, i.e. one-off costs in moving from one supplier to another e.g. a garage chain switching car dealership. 5. Access to distribution channels may be restricted e.g. for some major toiletry brands 90% of sales go through 12 buying points, i.e. chemist multiples and major retailers; therefore it is difficult for a new toiletry product or manufacturer to gain shelf space. 6. Cost advantages of existing producers, independent of economies of scale, e.g. patents, special knowledge, favourable access to suppliers, government subsidies.
4.3 Competitive Rivalry
Intensity of existing competition will depend on the following factors: 1. Number and relative strength of competitors – where an industry is dominated by a few large companies whilst rivalry is less intense e.g. petrol...