Porter's five force | How to Guide with Samples and Graphs

Introduction

Porter's Five Forces Model is a strategic framework that is utilized by the businesses and organization to analyze competitive forces. This model was introduced by Michael Porter, a Harvard Business School professor, in his 1979 book " Competitive Strategy: Techniques for Analyzing Industries and Competitors". It has since become one of the most widely used frameworks for understanding the overall dynamics of an industry.

What is Porter's five forces?

This model identifies five key factors that affect the competitive environment of an industry. These forces are the bargaining power of suppliers, the bargaining power of buyers, the threat of new entrants, the threat of substitute products or services, and the intensity of competitive rivalry. A thorough understanding of these forces can enable businesses to be better decision-makers and become competitive. The history of the model is discussed, along with a evaluation of the effectiveness of the model itself. This article also demonstrates an example of the model. The 5 forces model provides a structured tool to examine an industry and those in it. It accounts for the impact of factors and how they influence competition. It is applicable to a wide range of industries. However, it has also received criticism for failing to take into account technological challenges and regulatory frameworks. Despite its limitations, Porter's Five Forces Model remains a valuable tool for businesses seeking to understand the competitive dynamics of their industry. By providing a structured framework for analysis, it enables businesses to make more informed decisions and develop more effective strategies.

History: What are Porters?

When Micheal Porter was a professor at Harvard Business School and had been studying the principles of competition for many years. He developed the model as a tool for analyzing the environment of an industry and helping businesses to move strategically. The Five Forces Model builds on Porter's earlier work on competitive strategy, which focused on the importance of understanding the sources of competitive advantage within an industry. Porter's approach was to look beyond a company's individual strengths and weaknesses and consider the broader competitive environment in which it operated.

Since its introduction, this model has become one of the most widely used frameworks for evaluating the competition present within an industry. It has been used by a range of businesses and across a wide range of industries, from manufacturing to services. Porter's work has also had a significant impact on the field of strategy and has helped shape the way that businesses think about competition and competitive advantage.

What is the purpose of Porter’s Five Force Analysis?

The purpose of Porter's Five Forces Analysis is to help businesses understand the competitive environment of their industry and make more informed strategic decisions. By analyzing the five key factors that influence industry competition, businesses can identify areas where they may be at a disadvantage and develop strategies to improve their competitive position.

The purpose of Porter analysis is to:

  • Improve competitive position.

  • Provide structured framework for analyzing industry competition.

  • Help business think strategically about their position within the industry.

  • Identify opportunities for growth and develop strategies to protect themselves from competitive threats.

What does Porter’s Five Force analysis do?

There are several times an organization may need to make use of the Porter’s Five Force Model, such as:

  • When developing a new product or considering a merger or acquisition). For example, a company that manufactures and sells athletic shoes might use the model to analyze the competitive environment of the athletic shoe industry to understand their position within the market and identify areas where they could improve their competitive advantage.

  • They want to know the bargaining power of suppliers to understand how the supply chain operates.

  • Want to know the potential for price pressures or demands that a consumer could have.

  • They want to evaluate threat of new competitors must also be evaluated along with that of substitutes.

Use in Business: What is porter's five forces model?

The Porter's Five Forces Model is widely used by businesses for strategic analysis and decision-making. The model provides a structured approach to analyzing the competitive environment of an industry and identifying the key drivers of competition. Some of the applications of the Porter's Five Forces Model in business include:

  • Identifying Competitive Threats: In order to identify potential threats, this model can be used. By looking at suppliers and buyers along with potential new entrants and substitutes, an available business can strategize accordingly.

  • Developing Competitive Strategies: Businesses can use the Porter's Five Forces Model to develop effective competitive strategies. By analyzing the strong and weak points of their competitors and the key drivers of competition in their industry, businesses can make moves to differentiate themselves and their products.

  • Assessing the Attractiveness of an Industry: It can be used to assess whether an industry is ripe for entry or is viable for investments. By analyzing the key drivers of competition in an industry, businesses can determine whether it is a profitable and attractive industry to invest in or enter.

  • Understanding Industry Dynamics: The Porter's Five Forces Model can be used to gain a deeper understanding of the dynamics of an industry. By analyzing the key drivers of competition, businesses can gain insights into the competitive landscape of their industry and the factors that are shaping it.

  • Benchmarking Industry Competitiveness The model can be used to benchmark the level of competition within an industry. By analyzing the key drivers of competition in different industries, businesses can compare the competitiveness of these industries and identify the industries that are most attractive for investment or entry.

What are Porter’s Five Forces?

As mentioned above the Five Forces Model identifies five key factors that affect the competitive dynamics of an industry: the bargaining power of suppliers, the bargaining power of buyers, the threat of new entrants, the threat of substitute products or services, and the intensity of competitive rivalry. In this section, each of these is described in detail and discuss relevant examples that the forces could be applied to. The following figure shows the five forces.

porter's five forces model

Figure 1: Porter's Five Forces

What is Bargaining Power of Suppliers?

The bargaining power of suppliers refers to the following:

  • The ability of suppliers to influence the prices and terms of supply for products or services.

  • If there are only a few suppliers of a key input or if the input is critical to the production process, suppliers may have significant bargaining power.

  • Suppliers may be able to raise prices or limit supply, which can increase the costs of production for companies within the industry.

Example of Bargaining Power of Suppliers

For instance, in the automobile sectors, the suppliers of key materials such as steel and tires may have significant bargaining power due to their importance in the production process. If these suppliers raise prices or limit supply of the materials, it can increase the costs of production for car manufacturers and decrease their profitability.

What is Bargaining Power of Buyers?

The bargaining power of buyers refers to the following:

  • The ability of how buyers and consumers of a product can impact their price.

  • The buyers of a product can influence the price or terms of sale, thereby impacting the profitability of companies.

Example of Bargaining Power of Buyers

  • One such example is in the retail industry; Amazon has a large market share and can influence the market. It may be able to negotiate lower prices from suppliers and demand favorable terms of sale, which can decrease the profitability of smaller retailers.

  • Another example is the rise of online travel agencies and price comparison websites, consumers have become increasingly price-sensitive and have more access to information about airline ticket prices. As a result, consumers are able to compare prices across different airlines and make more informed purchasing decisions.

What is Threat of New Entrants?

The threat of new entrants refers to the following:

  • The threat and disruption to a market when a new company enters the industry.

  • If the barriers to entry are low, such as low capital requirements or few regulatory barriers, new competitors may be able to enter the market and compete with existing companies.

  • This can increase competition and decrease the profitability of existing companies within the industry.

Example of Threat of New Entrants

  • In the tech industry, the barriers to entry for new companies may be relatively low, as many technology startups require little capital to get started. This can lead to a high level of competition and a rapid turnover of companies within the industry.

What is Threat of Substitute Products or Services?

The threat of substitute products or services refers to:

  • Consumers substitute one product for an alternative which is similar.

  • The same services are offered by another company.

  • Companies within the industry may be at risk of losing market share or facing price pressure.

Example of Threat of Substitutes:

  • In the food and drinks industry, as water, can be a substitute for soft drinks or energy drinks. As concerns about health and wellness increase, more customers may choose to switch to water or other healthy alternatives, which can decrease the market share and profitability of soft drink and energy drink companies. Even though these provide an alternative for consumers, they are not ideal for industries.

What is Intensity of Competitive Rivalry?

The intensity of competitive rivalry refers to the following:

  • The higher the number of competitors within the industry that are competing for the same customers, the more intense rivalry is.

  • Price wars, aggressive marketing campaigns and various other means to gain a greater market share.

Example of Intensity of Competitive Rivalry:

  • This applies to industries such as the airline industry, which has a set number of consumers but a ton of airlines. For example, in the airline industry, there are many competitors vying for the same customers. This has led to intense price competition, as airlines compete to offer the lowest prices and attract customers. This causes firms to focus on short-term gains and also limits the entry of new competitors.

What are the Strengths & Weaknesses of Porter’s Five Force Analysis?

The model has received praise and criticism alike. In this section, we examine the strengths and weaknesses of the Porter’s Five Force Model.

What are the Strengths?

  • It is a straightforward and simple framework to use.

  • It can be applied to a wide range of industries, and it is easy to use.

  • It provides a structured approach to analyzing the environment of an industry.

  • The simplicity of the model makes it accessible to a broad audience, including business students, entrepreneurs, and industry analysts.

  • In addition to that, it is a comprehensive model. This is because it takes into account the key drivers of competition in an industry.

  • It considers both the internal and external factors that affect the competitive dynamics of an industry.

  • It also provides a framework for strategic analysis. The Porter's Five Forces Model provides a framework for strategic analysis that can be used to develop effective strategies for competing in an industry.

  • It helps businesses to identify their strengths and weaknesses relative to their competitors and to develop strategies to overcome the challenges of the competitive environment.

  • In addition to that, it is a widely utilized and accepted model and its application to a wide range of industries, including retail, automotive, technology, and healthcare. This widespread use of the model has led to a rich body of research and analysis that has helped to refine and improve the model over time.

What are the Weaknesses?

On the other hand, there are several criticism levied of the model as well.

  • The Porter's Five Forces Model has a limited scope and does not take into account other important factors that can affect the competitive dynamics of an industry. For example, it does not consider the impact of technological change, government regulations, or social trends on the industry.

  • In addition to that, it provides a high-level view of the competitive environment of an industry but does have any nuances attached to it.

  • The competition within an industry is often complex, and Porter’s model does not account for that.

  • It assumes that all firms within an industry are homogeneous and that they all face the same competitive pressures, which is not always the case.

  • The 5 forces model is very static in its nature, that means it analyzes an organization or industry at a certain point in time. It fails to that the dynamic nature of competition.

  • The underlying assumption of Porter’s Five Forces Model is that the competitive environment remains static which is not the case in real world. The competitive environment of an industry can change rapidly due to technological innovation, changes in consumer preferences, or other factors.

  • Lastly, it is also a difficult model to quantify, thereby making it difficult to analyze competitiveness across industries or observe changes in an industry with time. This limits its usefulness greatly for decision-making purposes.

Examples of porter five forces analysis

In this section, the porter analysis for an organization is presented. Jollibee Foods Corporation (JFC) is a Philippine-based multinational chain of fast-food restaurants, with a strong presence in Southeast Asia and the Middle East. The following is a summary of the porter five force model analysis for this organization.

  1. Threat of New Entrants

The fast-food industry is highly competitive; however, new entrants can emerge with unique concepts, technology, or marketing strategies, which could pose a threat to JFC.

  • Established brand: JFC has an established brand name and a strong presence in the Philippines (Figure 2) and other parts of Asia. The JFC is an established brand and has customer loyalty. This would make it difficult for any new entrants to the market to gain substantial market share.

  • Research & Development: The company has also invested heavily in research and development to create unique menu offerings and maintain customer loyalty ( Rarick et. al, 2011).

  • Large supply chain network: The company has a large supply chain network and economies of scale that make it difficult for new entrants to compete.

Figure 2: Market share in Philippines (Statista, 2021)

  1. Bargaining Power of Suppliers

  • JFC sources its raw materials from multiple suppliers. This gives it the advantage of not being reliant on any one supplier.

  • However, it is important to note that the suppliers in the food industry have some bargaining power due to the perishable nature of the products.

  • JFC is able to maintain sustainable relationships with its suppliers and thus is not greatly impacted by the power of the suppliers. This allows it to mitigate the risk attached to this.

  1. Bargaining Power of Buyers

  • The buyers have the highest bargaining power in this fast-food industry. This is primarily because of the high number of options and diverse brands to choose from.

  • In order to stay relevant and continue to make profits, it is vital for an organization to be distinguished and attract customers.

  • The JFC has established itself as a strong presence and has loyal customers. This enables JFC to have some pricing power over its consumers. However, it has to be careful in order to retain customers.

  • Furthermore, the organization is also investing in expanding its products and developing new options to attract even more customers.

Picture

Figure 3: Sales of JFC across the world ( BSCA Capital Markets, 2019)

  1. Threat of Substitutes

  • Similarly, due to a high number of competitors in the market, this particular threat of substitutes is very high in the fast-food industry.

  • There are several options to choose from, and these are often not limited to other fast-food chains. They can expand to local restaurants and even meals cooked at home.

  • This is why it is important for the JFC to improve upon its menu items and focus on providing the best possible food to the local audience.

Figure 4: Competition in the Industry for JFC (JFC, 2015)

  1. Intensity of Competitive Rivalry

  • JFC faces competition from both local and international fast-food chains.

  • However, JFC has established a strong brand reputation and customer loyalty, which gives it a competitive advantage.

  • Additionally, JFC has been expanding aggressively and entering new markets, which helps to increase its market share and reduce competition.

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