Porter's 5 Force Model

Porter’s Five Forces Model
It is a method for analyzing competition of a business. It is especially useful when starting a new
business or when entering a new industry sector.
According to this framework, competitiveness does not only come from competitors. Rather, the state
of competition in an industry depends on five basic forces:
 threat of new entrants

 bargaining power of suppliers
 bargaining power of buyers
 threat of substitute products or services
 Existing industry rivalry.
The collective strength of these forces determines the profit potential of an industry and thus its
attractiveness
Threat of new entrants
New entrants in an industry bring new capacity and the desire to gain market share. The
seriousness of the threat depends on the barriers to enter a certain industry. The higher these
barriers to entry, the smaller the threat for existing players.
Examples of barriers to entry are the need for economies of scale, high customer loyalty for
existing brands, large capital requirements (e.g. large investments in marketing or R&D), the
need for cumulative experience, government policies, and limited access to distribution channels.
More barriers can be found in the table below.
Bargaining power of suppliers
This force analyzes how much power and control a company’s supplier has over the potential to
raise its prices or to reduce the quality of purchased goods or services, which in turn would lower
an industry’s profitability potential.
The concentration of suppliers and the availability of substitute suppliers are important factors in
determining supplier power. The fewer there are, the more power they have.
Businesses are in a better position when there are a multitude of suppliers.
Sources of supplier power also include the switching costs of companies in the industry, the
presence of available substitutes, the strength of their distribution channels and the uniqueness or
level of differentiation in the product or service the supplier is delivering.
Bargaining power of buyers
The bargaining power of buyers is also described as the market of outputs.
This force analyzes to what extent the customers are able to put the company under pressure,
which also affects the customer’s sensitivity to price changes. The customers have a lot of power
when there aren’t many of them and when the customers have many alternatives to buy from.
Moreover, it should be easy for them to switch from one company to another.
Buying power is low however when customers purchase products in small amounts, act
independently and when the seller’s product is very different from any of its competitors. The
internet has allowed customers to become more informed and therefore more empowered.
Customers can easily compare prices online, get information about a wide variety of products
and get access to offers from other companies instantly
Threat of substitute products
The existence of products outside of the realm of the common product boundaries increases the
propensity of customers to switch to alternatives. In order to discover these alternatives one
should look beyond similar products that are branded differently by competitors. Instead, every
product that serves a similar need for customers should be taken into account..
Rivalry among existing competitors
This last force of the Porter’s Five Forces examines how intense the current competition is in the
marketplace, which is determined by the number of existing competitors and what each
competitor is capable of doing.
Rivalry is high when there are a lot of competitors that are roughly equal in size and power,
when the industry is growing slowly and when consumers can easily switch to a competitors
offering for little cost. A good indicator of competitive rivalry is the concentration ratio of an
industry. The lower this ration, the more intense rivalry will probably be. When rivalry is high,
competitors are likely to actively engage in advertising and price wars, which can hurt a
business’s bottom line.
In addition, rivalry will be more intense when barriers to exit are high, forcing companies to
remain in the industry even though profit margins are declining. These barriers to exit can for
example be long-term loan agreements and high fixed costs.

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Porter’s Five Forces Model

 threat of new entrants

Bargaining power of suppliers

Businesses are in a better position when there are a multitude of suppliers.

Bargaining power of buyers

The bargaining power of buyers is also described as the market of outputs.

Threat of substitute products

Rivalry among existing competitors

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