Michael Porter’s Five Forces Model

Michael Porter … “ An industry’s profit potential is largely determined by the intensity of competitive rivalry within that industry.”

“ An industry’s profit potential is largely determined by the intensity of competitive rivalry within that industry.”

Porter’s Five Forces

Portfolio Analysis … … Strategy at the time (1970s) was focused on two dimensions of the portfolio grids … … Industry Attractiveness … Competitive Position

… Strategy at the time (1970s) was focused on two dimensions of the portfolio grids …

… Industry Attractiveness

… Competitive Position

Business Strength Matrix

Where was Michael Porter coming from?

School of Economics … … at Harvard … … Exposed Porter to the Industrial Organization (I0) sub-field of Economics.

… at Harvard …

… Exposed Porter to the Industrial Organization (I0) sub-field of Economics.

Structural reasons why … … some industries were profitable * Firm concentration * Established cost advantages * Product differentiation * Economies of scale

… some industries were profitable

* Firm concentration

* Established cost advantages

* Product differentiation

* Economies of scale

Structural reasons … … all represented barriers to entry in certain industries, thus allowing those industries to be more profitable than others.

… all represented barriers to entry in certain industries, thus allowing those industries to be more profitable than others.

But Economists … … generally concerned them-selves with the minimization rather than maximization of what they viewed as excess profits (i.e., Public Policy).

… generally concerned them-selves with the minimization rather than maximization of what they viewed as excess profits (i.e., Public Policy).

Business policy objective … of profit maximization Porter developed his elaborate framework for the structural analysis of industry attractive-ness within the framework of Business Policy.

… of profit maximization

Porter developed his elaborate framework for the structural analysis of industry attractive-ness within the framework of Business Policy.

Michael Porter … By using a framework rather than a formal statistical model , Porter identified the relevant variables and the questions that the user must answer in order to develop conclusions tailored to a particular industry and company.

By using a framework rather than a formal statistical model , Porter identified the relevant variables and the questions that the user must answer in order to develop conclusions tailored to a particular industry and company.

Porters Five Forces … * Threat of Entry * Bargaining Power of Suppliers * Bargaining Power of Buyers * Development of Substitute Products or Services * Rivalry among Competitors

* Threat of Entry

* Bargaining Power of Suppliers

* Bargaining Power of Buyers

* Development of Substitute Products or Services

* Rivalry among Competitors

Barriers to Entry … … large capital requirements or the need to gain economies of scale quickly. … strong customer loyalty or strong brand preferences . … lack of adequate distribution channels or access to raw materials .

… large capital requirements or the need to gain economies of scale quickly.

… strong customer loyalty or strong brand preferences .

… lack of adequate distribution channels or access to raw materials .

Power of Suppliers … … high when * A small number of dominant, highly concentrated suppliers exists. * Few good substitute raw materials or suppliers are available. * The cost of switching raw materials or suppliers is high .

… high when

* A small number of dominant, highly concentrated suppliers exists.

* Few good substitute raw materials or suppliers are available.

* The cost of switching raw materials or suppliers is high .

Power of Buyers … … high when * Customers are concentrated , large or buy in volume . * The products being purchased are standard or undifferentiated making it easy to switch to other suppliers. * Customers’ purchases represent a major portion of the sellers’ total revenue.

… high when

* Customers are concentrated , large or buy in volume .

* The products being purchased are standard or undifferentiated making it easy to switch to other suppliers.

* Customers’ purchases represent a major portion of the sellers’ total revenue.

Substitute products … … competitive strength high when * The relative price of substitute products declines . * Consumers’ switching costs decline . * Competitors plan to increase market penetration or production capacity .

… competitive strength high when

* The relative price of substitute products declines .

* Consumers’ switching costs decline .

* Competitors plan to increase market penetration or production capacity .

Rivalry among competitors … intensity increases as * The number of competitors increases or they become equal in size . * Demand for the industry’s products declines or industry growth slows . * Fixed costs or barriers to leaving the industry are high .

… intensity increases as

* The number of competitors increases or they become equal in size .

* Demand for the industry’s products declines or industry growth slows .

* Fixed costs or barriers to leaving the industry are high .

Summary … As rivalry among competing firms intensifies , industry profits decline , in some cases to the point where an industry becomes inherently unattractive .

As rivalry among competing firms intensifies , industry profits decline , in some cases to the point where an industry becomes inherently unattractive .

The Experience Curve … … as an entry barrier Unit costs associated with economies of scale, the learning curve for labor, and capital-labor substitution decline with “ experience ,” and this creates a barrier to entry , as new competitors with no “experience” face higher costs than established ones .

… as an entry barrier

Unit costs associated with economies of scale, the learning curve for labor, and capital-labor substitution decline with “ experience ,” and this creates a barrier to entry , as new competitors with no “experience” face higher costs than established ones .

However … … If a new entrant has built the newest, most efficient plant, it will not have to “ catch up .” … Technical advances purchased by new entrants – free from the legacy of heavy past Investments – may provide those companies a cost advantage over the leaders.

… If a new entrant has built the newest, most efficient plant, it will not have to “ catch up .”

… Technical advances purchased by new entrants – free from the legacy of heavy past Investments – may provide those companies a cost advantage over the leaders.

In addition … The experience curve barrier can be nullified by product or process innovations that create an entirely new experience curve – one to which leaders may be poorly positioned to jump , but to which new entrants can alight as they enter the market .

The experience curve barrier can be nullified by product or process innovations that create an entirely new experience curve – one to which leaders may be poorly positioned to jump , but to which new entrants can alight as they enter the market .

Strategic Groups … Firms that face similar threats or opportunities in an industry but which differ from the threats and opportunities faced by other sets of firms in the same industry (e.g., in the beverage industry: soft drinks group versus alcoholic beverages).

Firms that face similar threats or opportunities in an industry but which differ from the threats and opportunities faced by other sets of firms in the same industry (e.g., in the beverage industry: soft drinks group versus alcoholic beverages).

Strategic Groups … Rivalry generally is more intense within strategic groups than between them because members of the same group focus on the same market segments with similar products , strategies and resources .

Rivalry generally is more intense within strategic groups than between them because members of the same group focus on the same market segments with similar products , strategies and resources .

Industry & Product Life Cycles

Industry & Product Life Cycles

Bright Horizons ( 12 months)