Porter

Porter's five forces of model • Industry growth: In an expanding industry,
competition is usually less dramatic because the

market is growing so fast that competitors have
Michael Porter's five-force strategic analysis model,
little need to fight for customers
introduced in a 1979 article published in the Harvard
Business Review, remains a fundamental tool for strategic • Similarities in what's offered: When the
analysts plotting the competitive landscape of an products or services in a market are awfully
industry. In a bid to mirror the complexity real strategists similar (think of the lower page of results in any
would face while keeping their strategic analysis Amazon product search), competition tends to be
manageable, Porter set out five forces at play in a given intense because customers can easily switch.
industry: internal competition, the potential for new entrants, • Exit barriers: When it's difficult or costly for
the negotiating power of suppliers, the negotiating power of companies to leave the industry due to
customers, and the ability of customers to find substitutes. specialized assets, contractual obligations, or
Below, we take you through each of Porter's five forces, emotional attachment, they may choose to stay
detail the significant critiques of his approach, and show and compete, even if the market's prospects grow
how to apply the model to specific markets. dimmer by the day.
• Fixed costs: Porter notes that if an industry has
high fixed costs, companies have a "strong
• Porter's five forces are used to identify and temptation" to cut prices rather than slow
analyze an industry's competitive forces. production when demand slackens. Paper and
• The five forces are competition, the threat of new aluminum manufacturing are two good examples
entrants to the industry, supplier bargaining
that Porter gives
power, customer bargaining power, and the ability
of customers to find substitutes for the sector's 2. Potential for New Entrants in an Industry
products. Industries where new firms can enter more easily
• The model guides businesses in determining the almost always have lower profit margins, and the firms
intensity of competition and potential profitability involved each have less market share. The sector for
within their market, helping them better local restaurants has relatively low entry requirements:
understand where power lies in their sector. there aren't significant investments or regulatory
• Porter's model was meant to critique "perfectly hurdles to surmount before opening to the public.
competitive" business models, unlike real-world Thus, it's also the case that your favorite restaurant
markets where competitors aren't just rivals and may not stay open for long, given the hypercompetitive
firms in specific industries tend to rise and fall environment and constant entrance of new restaurants
together. opening.
• Criticisms mounted against the model include that • Economies of scale: Industries where large-scale
it's too static, doesn't speak to the advantages or production leads to lower costs face less of a
problems of specific companies, doesn't account threat from new entrants.
enough for collaborative business models, and • Product differentiation: When existing firms have
doesn't apply as well to quick-changing markets. strong brand identities or customer loyalty, it's
harder for new entrants to gain market share,
reducing the threat of entry.
• Capital requirements: High startup costs for
equipment, facilities, etc., can deter new entrant
• Access to distribution channels: retail stores,
online platforms, cable infrastructure, etc.—
• Regulations: Licenses, safety standards, and
other regulatory standards can create barriers,
making it too ungainly or costly for new firms to
enter the market.
• Switching costs: If it's costly or difficult for
customers to switch from existing firms to new
entrants, the threat of entry is lower.
3. Supplier Power
1. Competitive Rivals Suppliers are powerful when they are the only source
Porter's first force is what we usually of something important that a firm needs, can differentiate
mean when discussing business competition. We their product, or have strong brands. When the power of
think of Pepsi and Coca-Cola for soft drinks, suppliers in an industry is high, this raises costs or
Apple and Samsung for smartphones, Nike and otherwise limits the resources a firm needs. Here are some
Adidas for sneakers, and Ford and General factors used to measure the supplier power of an industry:
Motors for autos. Indeed, some of these rivalries • The number of suppliers: When few firms can
are so influential that consumers split almost give a company something it needs to stay in
culturally among those who have an iPhone, drive business, each has greater negotiating power.
a Ford, or prefer Netflix to Hulu. Thus, it's no They can raise prices or reduce quality without
accident that we also consider business fear of losing business.
competition chiefly a war among rivals. • Uniqueness: If a supplier provides a unique
• The number of competitors: The more product or it's not easy to find a substitute, it is
competitors in an industry, the more fierce the more dominant. Businesses can't easily switch to
rivalry, each fighting for scraps of market share. another supplier
• .
• Switching costs: If it's costly or time-consuming • Availability of close substitutes: Though this
to switch suppliers, then they have more power. sounds the same as the last bullet point, you have
Businesses are less likely to switch, even if prices to strategize differently around it.
increase.
• Forward integration: If suppliers can move into
the buyer's industry, they have more power.
• Industry importance: Some sectors are tightly
intertwined, such as automotive suppliers and the
major auto companies or the semiconductor and
tech industries, which can balance the power
between the suppliers and those in the sector.
This is because the supplier needs these buyers
to do well so that it can, too. When a supplier can
just as easily sell its products elsewhere, that
gives it a great deal more power.
4. Customer Power
When customers have more strength, they can
exert pressure on businesses to provide better products or
services at lower prices. This force intensifies under certain
conditions:
• The number of buyers: The fewer the buyers,
the more they have power. In sectors like
aerospace manufacturing, each major airline, the
industry's customers, has significant leverage in
negotiations and can demand favorable terms
because the sellers depend on their business.
• Purchase size: Just like you head off to the big
box stores to buy in bulk for a cheaper per-unit
cost on whatever now fills up your garage, major
retail chains like Walmart Inc. (WMT) buy in large
volumes and can negotiate better terms and
discounts.
• Switching costs: In industries like
telecommunications, where it's easy for
consumers to switch providers, companies such
as Verizon Communications, Inc. (VZ) and AT&T
Inc. (T) have to offer competitive terms.
• Price sensitivity: In the fast-fashion industry,
where customers are highly price-sensitive,
brands must keep their prices low to attract cost-
conscious consumers.
• Informed buyers: In many sectors, the
customers are savvy, know the competitive terrain
well, and thus can negotiate better prices.
5. Threat of Substitutes
When customers can find substitutes for a sector's
services, that's a major threat to the companies in that
industry. Here are some ways that this threat can be
magnified:
• Relative price performance: If the cost of a
substitute is lower and its performance is
comparable or better, customers are likely to
switch to the substitute. For instance, streaming
services like Netflix became a substitute for
traditional cable TV, providing a lower price that
soon threatened the cable industry.
• Customer willingness to go elsewhere: The
threat is high if buyers find it easy to switch to a
substitute. For example, in the early 2010s,
customers found switching from taxis to ride-
sharing apps like Uber or Lyft cheaper and easier.
• The sense that products are similar: If buyers
perceive that there are few differences between
your product and a substitute, even if there are,
they may be more likely to switch.

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Porter's five forces of model • Industry growth: In an expanding industry,

competition is usually less dramatic because the

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