Porter’s 5 Forces: Understanding an Industries Competitive Intensity

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Porter’s Five Forces Framework is a method for analyzing the competitive intensity and, therefore, the attractiveness (or lack thereof) of an industry in terms of its profitability. An “unattractive” industry is one in which the effect of these five forces reduces overall profitability.

Porter’s five forces include three forces from ‘horizontal’ competition – the threat of substitute products or services, the threat of established rivals, and the threat of new entrants – and two others from ‘vertical’ competition – the bargaining power of suppliers and the bargaining power of customers.

Threat of new entrants
- Barriers to entry restrict the threat of new entrants. If the barriers are high, the threat of new entrants is reduced, and conversely, if the barriers are low, the risk of new companies venturing into a given market is high. Barriers to entry are advantages that existing, established companies have over new entrants
Threat of substitutes
- A substitute product uses different technology to try to solve the same economic need. Examples of substitutes are:
  - Meat, poultry, and fish
  - Landlines and cellular telephones
  - Airlines, automobiles, trains, and ships
  - Beer and wine
- For example, tap water is a substitute for Coke, but Pepsi is a product that uses the same technology (albeit with different ingredients) to compete head-to-head with Coke, so it is not a substitute. Increased marketing for drinking tap water might “shrink the pie” for both Coke and Pepsi, whereas increased Pepsi advertising would likely “grow the pie” (increase consumption of all soft drinks).
Bargaining power of customers
- The bargaining power of customers is the ability of customers to put the firm under pressure. Buyers’ power is high if buyers have many alternatives. It is low if they have few choices.
Bargaining power of suppliers
- The bargaining power of suppliers is the ability of suppliers of raw materials, components, labor, and services (such as expertise) to put the firm under pressure. Suppliers’ power is high if there are few alternatives. It is low if there are many to choose from.
Competitive rivalry
- For most industries, the intensity of competitive rivalry is the biggest determinant of the competitiveness of the industry. Having an understanding of industry rivals is vital to successfully marketing a product. Positioning depends on how the public perceives a product and distinguishes it from competitors‘. An organization must be aware of its competitors’ marketing strategies and pricing.