Definition of Porter's Five Forces
Porter's Five Forces is a structure for industry analysis and business strategy development formed by Michael E. Porter of Harvard Business School in 1979. It draws upon Industrial Organization (IO) economics to derive five forces that determine the competitive intensity and therefore attractiveness of a market. Attractiveness in this context refers to the overall industry profitability. An "unattractive" industry is one in which the combination of these five forces acts to drive down overall profitability. A very unattractive industry would be one approaching "pure competition", in which available profits for all firms are driven to normal profit. Porter's five forces include three forces from horizontal axis competition which are threat of substitute products, the threat of established rivals, and the threat of new entrants. While the two forces from vertical competition are the bargaining power of suppliers and the bargaining power of customers.
This refers to the intensity of the competition within the industry itself. Concentrated industries with only a handful of players tend to be less competitive and more profitable than fragmented industries (like fast-food) where hundreds of company tries to challenge each other. In the traditional economic model, competition among rival firms drives profits to zero. But competition is not perfect and firms are not unsophisticated passive price takers. Rather, firms strive for a competitive advantage over their rivals. The intensity of rivalry among firms varies across industries, and strategic analysts are interested in these differences.
Rivalries naturally develop between companies competing in the same market. Competitors use means such as advertising, introducing new products, more attractive customer service and warranties, and price competition to enhance their standing and market share in a specific industry. To Porter, the intensity of this...
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