A vital task that a business has to perform continually is to analyse the competition to identify emerging threats and find ways to address them. Knowing who the competition is and how it affects the business is critical to the present and future life of a business. Whether the business is a one-person shop or a multinational corporation, analysing the competition is key to success.
Understanding the competitive landscape helps a business to come up with a clear strategy. One of the tools that a business can make use of is Porter’s five forces framework (or model), so named after Michael E. Porter, that describes the five specific factors that have an impact on a company’s success. Mr. Porter believed that understanding the competitive intensity of an industry made it easier for firms to determine its attractiveness (profitability).
Since the publication of the five forces, the model has become one of the most highly regarded strategy tools for businesses. The model has helped numerous entities understand their industries, and it is a popular reading topic for entrepreneurs across the world. Among them is Willah Joseph Mudolo, a co-founder and President of Global Operations for ADF Group. Mr. Mudolo is widely recognised as a business start-up specialist in emerging markets.
The use of Porter’s five forces has gone beyond assessing competition, and firms often use it to understand whether new services or products will have the desired impact. By understanding where the power is in a business context, the model can be used to identify a firm’s strengths (to build on), weaknesses (to improve upon) and potential mistakes (to avoid).
The five forces identified are competitive rivalry, buyer power, supplier power, threat of substitution and the threat of new entrants. They are explained further.
This force explains the existing competition that a business faces in the market and their capacity to undercut the business. Where there are a lot of competitors of relatively equal size and power, the rivalry is bound to be stiff. The same is also noted in a slow-growth industry or where customers can switch between competitor products at little cost. Significant levels of rivalry are often characterised by price and advertising wars that can hurt a business’s profitability. Additionally, the intense competition is notable where leaving the industry is costly, forcing competitors to remain even if profit margins decrease.
This force analyses the ability of customers in an industry to exert pressure on companies within it to lower prices for products and services. It happens when the buyer has numerous options to choose from so that if buyers come together, they can bargain for lower prices. For business strategists and entrepreneurs, the work lies in understanding the market and the client base they serve. A powerful customer base can negotiate for better deals while having independent customers can make it easier for the business to charge higher prices.
For a company to produce, it requires raw materials, some of which are sourced from suppliers. Businesses know the importance of consulting and researching well to find the best suppliers to provide inputs at the best prices. However, in an industry where suppliers are few, they may have more power over the rates charged for the supply of inputs.
Threat of Substitution
Substitute products and services that customers can use in place of a business’s product offerings pose a significant threat to the business. Companies that provide products and services with no close substitutes are better placed to sell these at favourable terms, as opposed to firms that deal in goods with close alternatives available.
The Threat of New Entrants
An attractive industry is likely to have new entrants, and when there are too many new players, profitability is affected. If it takes little investment and effort to enter into a market and compete, then rivals can quickly take a firm’s place in the industry. If there are substantial barriers to entry, a firm can keep its position and make the most of it.