Porter’s 5 Forces Analysis

Origin of Porter’s 5 Forces Analysis

Porter’s 5 forces analysis was developed by Michael Porter, professor at the Harvard Business School during the 1970s. It is intended to analyze how stiff the competition is within a given industry. It is usually used during a feasibility study, before product development.

By doing Porter’s 5 Forces Analysis, companies can easily decide whether a particular product is worth for the developing based on how crowded industry is and how strong the existing competitors are. It can also be used to align the marketing strategy of existing products.

5 Forces Analysis

The first variable is Competitive Rivalry which looks at the existing competitors in the industry – the size and number. A favorable environment to introduce new products is those with a low number of competitors.

For example, the fast-food industry, dominated by giants like McDonald’s and Burger King, is a highly competitive space, making it difficult for new players to establish a foothold.

The second variable is Barriers to Entry. This is how hard or easy it is for new players to come in. Barriers to Entry include cost expenditure (capital needed to develop new products, examples are airlines, cars, medical equipment), cost leadership (is it easy to develop cheaper products?

For instance, the pharmaceutical industry requires significant investment in research and development, creating a high barrier for new entrants.

Examples are Chinese brands), and brand loyalty (how well-established competitor brands are with customers). An industry with high barriers to entry are those that need high capitalization, many cheaper alternatives, or if competitor brands are already very well established.

The third variable is the Threat of Substitutes – are the products easily replaced with direct or indirect competitors? You don’t want to enter an industry that has a lot of substitute products.

For example, the rise of streaming services poses a significant threat to traditional cable television providers.

The fourth variable is the Bargaining Power of Customers. Do customers have the power to dictate the price? In certain conditions, competition is so intense that customers can demand anything from suppliers. You don’t want to enter a market where customers can dictate everything.

For example, smartphone industry, companies often find themselves under pressure to reduce prices and enhance product features to retain customers.

The last variable is the Bargaining Power of Suppliers. This increases when suppliers are limited as no competitors can offer you better pricing.

For example, microprocessors in the tech industry, suppliers can demand higher prices, squeezing the margins of businesses reliant on their products.

Application

If you are a new entrant, you’d want the 5 variables to be low, if you are an established brand you’d want to increase these 5 variables.

Porter’s Five Forces analysis can also help companies check the potential profitability and attractiveness of entering a new market. By analyzing the bargaining power of suppliers and customers, the threat of new entrants, the intensity of competitive rivalry, and the threat of substitutes, companies can determine whether a market is worth pursuing and what strategies may be necessary to succeed.

Porter’s Five Forces remains a cornerstone of strategic business analysis. By carefully examining each force, companies can navigate complex markets, make informed strategic decisions, and achieve sustainable growth.

Conclusion

Porter’s Five Forces analysis can help companies develop their business strategy by identifying key opportunities and threats in their industry. By analyzing the forces that shape the industry, companies can determine which strategies will be most effective, such as differentiation, cost leadership, or niche marketing.