Porter has argued that competition is often viewed too narrowly by marketer and that apart from the direct competitors there are other sets of competition that have to be considered. For this reason, Porter has put forward the well-known Porter’s Five Forces Framework which is a holistic tool or viewing any industry and understanding the structural underlying drivers of profitability. Porter has identified five competitive forces that play a significant part in shaping the industry structure and attractiveness.
1. Threat of New Entrants
This force determines how easy is for a company to enter a particular industry. The higher the barriers to entry, the harder it is for new entrants to join the industry, and the smaller the threat for existing firms in the market. Some examples of barriers to entry are high switching costs, increases customer loyalty, economies of scale and differentiated products.
2. Bargaining power of suppliers
This force looks into the control that a company’s supplier has over the price of goods and services. When there is a strong bargaining power then suppliers can easily affect the prices, and in turn the buying firm’s profits. Suppliers may enjoy strong bargaining power when the number of suppliers is limited in the industry, when there are only a few substitutes and when suppliers hold scarce resources.
3. Bargaining power of buyers
The next force respectively examines the power and control that buyers have over prices. When bargaining power is high then buyers can exert significant pressure on lowering prices or demanding a higher quality product. This is seen when there are only a few buyers in the market, when the switching costs to other suppliers are low and when there are many substitutes in the market.
4. Threat of substitutes
Another force that is especially threatening is the threat of substitutes which looks into the availability of substitute products with lower prices or higher quality that buyers can switch to with little cost. Here, every product or service that satisfies similar consumer needs should be taken into account.
5. Industry rivalry
The last force of Porter’s Five Forces framework examines the intensity of the existing competition in the industry. This factor consists of a major determinant on the attractiveness and profitability of the industry. In an industry with strong industry rivalry, firms will have to aggressively compete against each other to gain share of market which result in low profit. High industry rivalry may be caused due to the high number of competitors, high barriers to exit, slow industry growth and low customer loyalty.
Porter’s model not only helps to identify how profitability arises but also examines the underlying structure and the constrains that may slow down this process. The strength of this tool is that it can be applied to any industry and provides a robust framework that allows marketers to deeply focus on the underlying fundamentals to understanding the dynamic, evolving nature of the industry structure.