Wikipedia defines Porter’s Five Forces Analysis as a framework to analyze the level of competition within an industry and business strategy development. The five forces are used to measure the attractiveness (or profitability) of an industry. These forces are a micro environment of a company in an industry, which affect its ability to serve customers and make a profit (Wikipedia). Porter’s five forces include three horizontal and two vertical forces:
1. Threat of substitute products (horizontal)
2. Threat of established rivals (horizontal)
3. Threat of new entrants (horizontal)
4. Bargaining power of suppliers (vertical)
5. Bargaining power of customers (vertical)
Definition and Factors of Porter’s Five Forces
The threat of new entrants is high when profitable markets yield high returns. Wikipedia lists some factors that could have an effect on how much of a threat new entrants may pose: the existence of barriers to entry, economies of scale, product differentiation, brand equity, switching costs, access to distribution, customer loyalty to established brands, and industry profitability.
The threat of substitute products or services is the likelihood of the existence of new innovations outside of the common product which increases the probability that customers will switch over to the substitute. Wikipedia lists some potential factors: buyer propensity to substitute, buyer switching costs, perceived level of product differentiation, ease of substitution, substandard product, and quality depreciation.
The bargaining power of buyers is defined as the level of bargaining power the buyers have to put a firm under pressure and influence competition. The buyer power is high when buyers have several alternatives, but it’s low if a buyer acts alone. Wikipedia lists some potential factors: buyer concentration to firm concentration ratio, degree of dependency upon exsisting channels of distribution, bargaining leverage, buyer switching costs versus firm switching costs, buyer information availability, buyer price sensitivity, and differential advantage of industry products.
The bargaining power of suppliers can be a source of power over a firm and disrupt production if alternatives are not available. Bargaining power of suppliers is high when firms are under pressure and vulnerable to potential entrants, and when profits are threatened. Wikipedia lists some potential factors: supplier switching costs versus firm switching costs, degree of differentiation of inputs, presence of substitute inputs, strength of distribution channel, supplier concentration to firm concentration ratio, and supplier competition.
The threat of established rivals is the major element of determining the competitiveness of an industry. High levels of competition can present barriers to entry. Wikipedia lists some potential factors: sustainable competitive advantage through innovation, competition between online and offline companies, level of advertising expense, powerful competitive strategy, firm concentration ratio, and degree of transparency. Dobb’s Five Forces Templates
In Dobb’s article, he discusses using templates with these individual components as measurements: Sources of threats: The above potential factors affecting each force are listed on the template. Threat level indicator bar: This bar has the range of threat based on the factor, from low to high. Driving factors: There is a check box to the left of each factor and threat level bar. If the threat was rated moderate to high then the driving factor box is checked. Threats and opportunities: This space is provided to indicate key opportunities and threats, and to tie the industry analysis with strategic action and resources of the firm. Example Template:
Deresky, H. (2014). International Mangement: Managing Across Borders and Cultures (8th ed.). New Jersey: Pearson Education, Inc. Dobbs, M. (2012). Porter’s Five Forces in Practice: Templates for Firm and Case Analysis. Competition Forum, 10(1), 22-34. Wikipedia. (n.d.). Porter Five Forces
Analysis. Wikimedia Foundation. Retrieved March 9, 2015, from Wikipedia: http://en.wikipedia.org/wiki/Porter_five_forces_analysis