FIVE FORCE MODEL
Michael Porter (1980) has identifies five forces that determine the intrinsic long run attractiveness of a market or a market segment in other words the competitive structure of an industry can be analysed using Porter's five forces. Attractiveness in this context refers to the overall industry profitability. The overall industry attractiveness does not imply that every firm in the industry will return same profitability. Firms are able to apply their core competences, business model or network to achieve a profit above the industry average.
The five forces of Porter’s model are as follows:
Threat Of Intense Segment Rivalry:
This measures the degree of competition between existing firms. The higher the degree of rivalry the more difficult it is for existing firms to generate high profits. Rivalry will be higher if: •
There are a large number of similar sized firms (rather than a few dominant firms) all competing with each other for customers. •
The costs of leaving the industry are high e.g. because of high levels of investment. This means that existing firms will fight hard to survive because they cannot easily transfer their resources elsewhere. •
The level of capacity utilisation. If there are high levels of capacity being underutilised the existing firms will be very competitive to try and win sales to boost their own demand. •
The market is shrinking so firms are fighting for their share of falling sales. •
There is little brand loyalty so customer is likely to switch easily between products. 2.
Threat Of New Entrants :
The extent to which barriers to entry exist. The more difficult it is for other firms to enter a market the more likely it is that existing firms can make relatively high profits. The likelihood of entering a market would be lower if:
The entry costs are high e.g. if heavy investment is required in marketing or equipment. •
There are major advantages to firms that have been operating in the industry already in terms of their experience and understanding of how the market works (this is known as the "learning effect"). •
Government policy prevents entry or makes it more difficult. •
The existing brands have a high level of loyalty.
The existing firms may react aggressively to any new entrant e.g. with a price war. •
The existing firms have control of the supplies .e.g. entering the diamond industry might be difficult because the majority of known sources of diamonds are controlled by companies such as De Beers. 3.
Threat Of Substitute Products:
This measures the ease with which buyers can switch to another product that does the same thing e.g. aluminium cans rather than glass or plastic bottles. The ease of switching depends on what costs would be involved and how similar customers perceive the alternatives to be. 4.
Threat Of Buyer’s Growing Bargaining Power:
The stronger the power of buyers in an industry the more likely it is that they will be able to force down prices and reduce the profits of firms that provide the product. Buyer power will be higher if: •
There are a few, big buyers so each one is very important to the firm. •
The buyers can easily switch to other providers so the provider needs to provide a high quality service at a good price. •
The buyers are in position to take over the firm. If they have the resources to buy the provider this threat can lead to a better service because they have real negotiating power. 5.
Threat Of Suppliers Growing Bargaining Power:
The stronger the power of suppliers in an industry the more difficult it is for firms within that sector to make a profit because suppliers can determine the terms and conditions on which business is conducted. Suppliers will be more powerful if: •
There are relatively few of them (so the buyer has few alternatives). •
Switching to another supplier is difficult and/or...
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