Porters 5 forces class presentation

The 5 Competitive Forces The 5 Competitive Forces

That That ShapeShape Strategy Strategy

1) Opening :1-1 Introduction 1-2 Issue 1-3 New forces

2) 2 Forces :2-1 Rivalry among existing competitors 2-2 Bargaining power of buyers

3) 2 Forces :3-1 Threat of new entrants 3-2 Bargaining power of suppliers

4) 1 Force :4-1 Threat of substitute products or services

5) Conclusion

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5) Conclusion

Content

Economist Michael E. Porter identified………

Image : Extracted from Google

Source : Harvard Business Review / January 2008 / hbr.org

Introduction – Importance of The 5 Forces

Strategize :* Competitive advantage* Cost advantage* Market dominance* New product development* Contraction / Diversification* Price leadership* Global* Re-engineering* Downsizing* De-layering* Restructuring

Measure and monitorstrategy effectiveness

What strategy to use?

Basic knowledgeof business strategy& forces that influencethe decision making

…..vital in successful Strategic Management !

Industry analysis :1) Industry relevance2) Industry players3) 5 forces4) Industry structure5) Future changes

How to deal with competition?

Rivalry amongexisting

competitors

Threat ofsubstitute

products orservice

Threat of new

entrants

Bargaining power

of suppliers

Bargaining power

of buyers

5 Forces

Soft factors:SkillsCultureIntangible assetsReputation

Definition of competitors& customers

Impact of IT

Economic turbulence

Issue – Limitations of 5 Forces

Emerging of New Forces

Organization Reinvention Customers’ Expectations

Information Technology





5) Conclusion

Content

Rivalry Among Existing Competitor (1)Rivalry Among Existing Competitor (1)

Rivalry happen when: Rivalry happen when: A firm is challenged by competitor actionA firm is challenged by competitor action A company recognize opportunity to improve A company recognize opportunity to improve

market positionmarket position

Normally result in lower profitabilityNormally result in lower profitability Action will invite competitive response Action will invite competitive response Depend on the intensity and basis of Depend on the intensity and basis of

competingcompeting


Rivalry can increase profitability and Rivalry can increase profitability and expand market if: expand market if: Each competitors aim to serve different needs Each competitors aim to serve different needs

and market segment with different mixes ofand market segment with different mixes of priceprice productsproducts serviceservice featuresfeatures

Better in meeting the customer needsBetter in meeting the customer needs


Rivalry is Rivalry is intensifiedintensified if: if: Competitors are roughly equal in sizeCompetitors are roughly equal in size Industry growth is slowIndustry growth is slow Exit barrier is highExit barrier is high High fixed costHigh fixed cost Low differentiation in productLow differentiation in product Aspiration for leadershipAspiration for leadership Cannot read each other signal well Cannot read each other signal well

Normally intensifies over timeNormally intensifies over time Alter by mergers and acquisitions and innovationAlter by mergers and acquisitions and innovation


Basis of competition:Basis of competition: Price – reduce profitPrice – reduce profit Product featuresProduct features Support serviceSupport service Delivery timeDelivery time Brand imageBrand image

• Less likely to reduce profit

• Improve value and increase barrier to entry


Price competition occur if: Price competition occur if: Product are nearly identical & less switching Product are nearly identical & less switching

costcost Fixed cost is highFixed cost is high To improve efficiency of productionTo improve efficiency of production Product is perishableProduct is perishable

The Power of Buyer (1)The Power of Buyer (1)

The aim is to The aim is to maximizemaximize profit profit Capture more value by forcing down priceCapture more value by forcing down price Demanding better qualityDemanding better quality Demanding greater level of serviceDemanding greater level of service

Power will change with timePower will change with time

Strategically, the firm must able to choose Strategically, the firm must able to choose to whom it buy fromto whom it buy from


A buyer has negotiating leverage if:A buyer has negotiating leverage if: There are few buyersThere are few buyers Buyer volume is bigBuyer volume is big Products are standardized or undifferentiatedProducts are standardized or undifferentiated Few / little switching costFew / little switching cost Ability of backward integrationAbility of backward integration IT / InternetIT / Internet


A buyer is A buyer is price sensitiveprice sensitive if: if: Product purchased represent a significant Product purchased represent a significant

fraction of its cost or price/total purchase is fraction of its cost or price/total purchase is highhigh

Buyer earn low profitBuyer earn low profit Quality of buyer’s product is little affected by Quality of buyer’s product is little affected by

product purchasedproduct purchased Product purchased has little effect on buyer’s Product purchased has little effect on buyer’s

other costother cost

The Power of Buyer (Example)The Power of Buyer (Example)

• SCA sold 1 billions baby diapers a year

• Purchase large volume of raw material from suppliers

• Raw materials are common in industry

• Less switching cost

SCA has good bargaining power

• Profit margin is low, sell by volume. Save 1sen in a product will save RM10 million/ year.

• about 70% of the cost is from raw material

SCA is very sensitive to raw material pricing





5) Conclusion

Content

Threats of New EntrantsThreats of New Entrants

The easier it is for new companies to enter The easier it is for new companies to enter the industry, the more cutthroat the industry, the more cutthroat competition there will be. Factors that can competition there will be. Factors that can limit the threat of new entrants are:limit the threat of new entrants are:

Existing loyalty to major brands Existing loyalty to major brands Incentives for using a particular buyer Incentives for using a particular buyer High fixed costs High fixed costs Scarcity of resources Scarcity of resources High costs of switching companiesHigh costs of switching companies Government restrictions or legislationGovernment restrictions or legislation

Starbucks Fight against Threats of Starbucks Fight against Threats of New Entrants (1)New Entrants (1)

Past Past Products within the industry were greatly Products within the industry were greatly

differentiateddifferentiated Leasing of property, construction of roasting Leasing of property, construction of roasting

plants.plants. Specialized equipment for brewing the coffee.Specialized equipment for brewing the coffee.

Threat Level : LowThreat Level : Low

Starbucks Fight against Threats of Starbucks Fight against Threats of New Entrants (2)New Entrants (2)

PresentPresent Ambience of the storeAmbience of the store Social responsibility of the company Social responsibility of the company Brand IdentificationBrand Identification

Threat Level: Moderate LowThreat Level: Moderate Low

Suppliers PowerSuppliers Power

If one supplier has a large enough impact to If one supplier has a large enough impact to affect a company's margins and volumes, affect a company's margins and volumes, then it holds substantial power. then it holds substantial power.

There are very few suppliers of a particular product There are very few suppliers of a particular product There are no substitutes There are no substitutes Switching to another (competitive) product is very Switching to another (competitive) product is very

costly costly The product is extremely important to buyers The product is extremely important to buyers The supplying industry has a higher profitability than The supplying industry has a higher profitability than

the buying industry the buying industry

Starbucks Defense against Suppliers Starbucks Defense against Suppliers Power (1)Power (1)

PastPast Quality of Arabica Beans gives farmers Quality of Arabica Beans gives farmers

(suppliers) of these beans an upper hand.(suppliers) of these beans an upper hand. Suppliers upper hand on specialized equipment Suppliers upper hand on specialized equipment

production for coffee making appliances.production for coffee making appliances.

Suppliers Power: Extreme LowSuppliers Power: Extreme Low

Starbucks Defense against Suppliers Starbucks Defense against Suppliers Power (2)Power (2)

PresentPresent Farmers Compensation through Fair-Trade Farmers Compensation through Fair-Trade

Certified Coffee; conscious customers pull.Certified Coffee; conscious customers pull. Bigger market target compared to before Bigger market target compared to before

(McDonald, Denny’s)(McDonald, Denny’s) Introduction of Longterm Contract of coffee Introduction of Longterm Contract of coffee

beans supplies.beans supplies. Suppliers still have upper hand on specialized Suppliers still have upper hand on specialized

equipment production for coffee making equipment production for coffee making appliances.appliances.

Threat Level: Moderate LowThreat Level: Moderate Low





5) Conclusion

Content

The Power of Substitutes The Power of Substitutes Products or Services (1)Products or Services (1)

Threats of Substitute Threats of Substitute in the Porter’s theory actually means in the Porter’s theory actually means goods and services that does similar functionsgoods and services that does similar functions

This allows the customer to shift loyalty to another product This allows the customer to shift loyalty to another product based on:=based on:=

• Preference to the substitutePreference to the substitute• Relative price performance of the substituteRelative price performance of the substitute• Buyers switching costsBuyers switching costs• Perceived level of product differentiationPerceived level of product differentiation

Example : = The price of aluminum beverage cans is Example : = The price of aluminum beverage cans is constrained by the price of glass bottles, steel cans, and plastic constrained by the price of glass bottles, steel cans, and plastic containers. These containers are substitutes. In terms of containers. These containers are substitutes. In terms of Services, there is also the cable TV and the state owned TV. Services, there is also the cable TV and the state owned TV. MAS and Air Asia. MAS and Air Asia.


When there is one product successful, it also leads to the When there is one product successful, it also leads to the creation of other products that can perform the same creation of other products that can perform the same functions as the product of the same industry. functions as the product of the same industry.

A close substitute product A close substitute product constrainsconstrains the ability of firms in the ability of firms in an industry to an industry to raise prices.raise prices.

When there are substitutes, it puts a When there are substitutes, it puts a cap to the profits cap to the profits an an industry can obtain. It places a ceiling or limit to the a firm industry can obtain. It places a ceiling or limit to the a firm wishes to charge. The more attractive the substitutes are, wishes to charge. The more attractive the substitutes are, the tighter it is for an industry to mark up pricesthe tighter it is for an industry to mark up prices

This does not only apply to This does not only apply to normal economical timesnormal economical times, but , but also even when the economy is doing well and thriving.also even when the economy is doing well and thriving.


Porter also mentions that if one industry wishes Porter also mentions that if one industry wishes to follow suit producing products with similar to follow suit producing products with similar function, attention should be given to :function, attention should be given to :

11. . Products that enjoy steady price-performance tread offs Products that enjoy steady price-performance tread offs with the industry’s productwith the industry’s product

2. Would entail minimum switching costs for a buyer. 2. Would entail minimum switching costs for a buyer.

3. Are produced by industry earning high profits3. Are produced by industry earning high profits

Porter recommends that by doing advertising, Porter recommends that by doing advertising, product quality improvement, marketing, R&D product quality improvement, marketing, R&D and product distribution, an industry can improve and product distribution, an industry can improve its collective position against the substituteits collective position against the substitute. .

Porter’s opinion is that to strategize product on Porter’s opinion is that to strategize product on price, price, quality, after sales service and locationquality, after sales service and location in order to in order to create value and to reduce another product from looking create value and to reduce another product from looking “attractive”. In other words, Porter’s theory is to create a “attractive”. In other words, Porter’s theory is to create a difference or be different. By being distinctive, you are difference or be different. By being distinctive, you are able to win over your customer though there are dozens of able to win over your customer though there are dozens of products with similar functions in the market. products with similar functions in the market.

Example: Google and other search engines like Yahoo, Example: Google and other search engines like Yahoo, Excite, Lycos, Alta Vista EtcExcite, Lycos, Alta Vista Etc



Sample Case 1 : To help smokers in India, herbal cigarettes Sample Case 1 : To help smokers in India, herbal cigarettes (Nirdosh) was introduced. However it is not that popular (Nirdosh) was introduced. However it is not that popular among smokers. among smokers.

Nicotine Patch another substitute, however not popular. Nicotine Patch another substitute, however not popular. Cigarettes have an emotional value to smokers.Cigarettes have an emotional value to smokers.


Sample Case 2: Pharma Industry has substitute s but Sample Case 2: Pharma Industry has substitute s but doesn’t face threat because the industry depends on several doesn’t face threat because the industry depends on several organic chemicals. organic chemicals.

Very competitive and fragmented industry in most Very competitive and fragmented industry in most countries. countries.

Suppliers have low bargaining power.Suppliers have low bargaining power. The industry can switch from one supplier to another The industry can switch from one supplier to another

without incurring high costs.without incurring high costs.

Conclusion Conclusion Today Today IT/IT/ digitalization, unstable economy condition or digitalization, unstable economy condition or

needs, government laws, globalisation, customer needs, government laws, globalisation, customer expectation and organization reinventionexpectation and organization reinvention have become have become powerful forces and will continue to do so in the coming years. powerful forces and will continue to do so in the coming years. Porters model doesn’t clearly or touches much on those. Porters model doesn’t clearly or touches much on those.

We also find that Michael Porter We also find that Michael Porter simplified economic theory simplified economic theory in in which the law of economy existed long ago, for example which the law of economy existed long ago, for example Bargaining power of supplier is actually the supply and demand Bargaining power of supplier is actually the supply and demand theory. theory.

Porters model Porters model IS NOT INVALID IS NOT INVALID but can be the basic for strategy but can be the basic for strategy development, management technique and theories. An industry development, management technique and theories. An industry must do a careful market observations and must do a careful market observations and internal and internal and external factors, external factors, understand the limitations from this model understand the limitations from this model and study where their company intends to go in future. and study where their company intends to go in future.

ReferencesReferences

Thurlby, B.(1998). Competitive forces are also subject to Thurlby, B.(1998). Competitive forces are also subject to change., change., Management Decision JournalManagement Decision Journal, Vol. 36: 19-24. , Vol. 36: 19-24.

Ireland, R.D, Hoskisson, R.E, and Hitt, M.A. (2009). Ireland, R.D, Hoskisson, R.E, and Hitt, M.A. (2009). The The Management of Strategy Concept,Management of Strategy Concept, 8 8thth Edition, Mason: South Edition, Mason: South Western. Western.

Porter, M.E (2008). How competitive forces shape strategy, Porter, M.E (2008). How competitive forces shape strategy, Harvard Business Review. Harvard Business Review.

Metts, G(2007). Measuring the effectiveness of managerial Metts, G(2007). Measuring the effectiveness of managerial action in SMEs; An empirical analysis of management's action in SMEs; An empirical analysis of management's response to industry competitive forces, response to industry competitive forces, Management Management Research News, Research News, Vol 30. No. 12. pp 892-914Vol 30. No. 12. pp 892-914

References (Cont.)References (Cont.)

Hernández-Espallardo, Delgado-Ballester (2009). Product Hernández-Espallardo, Delgado-Ballester (2009). Product innovation in small manufacturers, market orientation and innovation in small manufacturers, market orientation and the industry's five competitive forces; Empirical evidence the industry's five competitive forces; Empirical evidence from Spain, from Spain, European Journal of Innovation Management, European Journal of Innovation Management, Vol. 12. No.4. pp 470-491Vol. 12. No.4. pp 470-491

Thurlby, Bob (1998). Competitive forces are also subject to Thurlby, Bob (1998). Competitive forces are also subject to change, change, Management Decision Journal,Management Decision Journal,Vol 36 No.1. Vol 36 No.1.

pp 19-24pp 19-24 Higbee, Z., Yee Liaw, C., Ting, C., Tjho, K., Ton, Michelle. Higbee, Z., Yee Liaw, C., Ting, C., Tjho, K., Ton, Michelle.

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Porters 5 forces class presentation

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