Porter’s 5 Forces

Welcome. Protecting your business against competitors and learning from them is an important practice that can save you from costly business mistakes. As a future business owner or as a manager, you want the best for the company you are responsible for. That means that the idea for the business and any business is markets with many customers and money to spend, low production cost and access to money with low interest rates, low tax, good transportation system to receive and send goods and materials, availability of goods suppliers to ensure you have the materials you need and when you need them, and availability of skilled and cheap labor.

In today’s market environment, you try to make customers buy your products and services working hard to set the right price, quality, and service. Still, other companies are targeting the same customers with the same or different products and in a market where your suppliers might have ideas on going to the customers directly by passing you, or choosing to work with one of your competitors. It is important before you open any business, to understand the industry and the market you will be in, in terms of dynamics, competition, and stability or instability.

Fortunately, thanks to the economist Michael Porter, we have a tool called Porter’s Five Forces to assess the dynamics and decide whether it is a good idea to do business in the market we are thinking of and if so, prepare ourselves with the right strategies and practices to succeed, which means making profit. Indeed, Porter’s Five Forces model helps us assail competition, as well as the intent of buyers, suppliers, and customers. Let us learn now how to use this model. We begin our assessment with the current competitors that offer similar products and services to those that we want to offer. We want to evaluate how they compete, whether competition is intense or hostile.

Competition tends to be hostile when many companies compete for the same customers, when the size of the competitors is big, which means they have the power to compete and for prolonged periods of time, when the market is declining and it becomes a matter of who will survive and who will go out of business. When all competitors offer similar products, so customers cannot really differentiate companies and brands. When companies have spent a lot of money to establish their business, which means that they will fight to survive rather than leave, even engaging in price wars in their effort to push other companies out.

Knowing all this, you will try to differentiate your product, partner with the right companies and investors, or try to find a specific group of customers to target. It is not just the current competitors you should think of only. Others might be thinking just what you are too, venturing in the market you want. Why should you think of them? It’s not just because they want the customers you want, but because they can bring in low prices. Heavy advertising or bringing new technology or materials that might be hard for you to match in your business model. Thinking about competition from this perspective as well, will just make you prepare better. Still your planning is not over.

What about if your customer’s needs could be served with a different product completely. Porter with his model tries to make us plan better by just making us take a broader look. For example, if you are a pencil producer, the need of your client to write could be fulfilled with a pencil, a pen, or even a fountain pen. Being aware of that, you can take useful decisions about the range of products or services you will be offering, their style and promotional messages, as well as loyalty programs. Yet, your business success depends on the reliability of your suppliers too.

Imagine if you had planned your cost to be $10, according to your supplier’s code, and then in short notice, your supplier asked for $15. That would affect your business a lot. Similarly, your business would be affected if your suppliers showed a willingness to serve the customers directly bypassing you. In order to avoid such events, analyze how many suppliers are in your industry, and the more the better. Their strategy and intent from reports and articles ensure you have several sourcing options available and good agreements signed. By now, if you have assessed competition and your suppliers, and it is time to think about your customers. Notice what kind of products they want, when and how, but how loyal are they?

The options they have with regards to products and services and their quality standards. After all this analysis regarding how your competitors run their business and how that might affect you, the level of understanding and cooperation you can have with your suppliers and the quality of relationship, or not, you can have with the customers you want, you are at a good point to determine whether you should venture in the market you are considering and how. Things will be easier for you if the entry threat is low, which means that you can enter the market without needing too much capital, which actually means that you can leave easily too, if things do not go as planned.

Things will be easier for you if you can buy out your competitors, which means of course, taking that market share for you. Things will be easier if the barriers to enter the market become high after you have entered, which means that as soon as you are in the market, you and other companies make it harder for new competitors to enter by investing, for example, in heavy advertisement, or making it hard for a new company to find good locations to sell its products or services.

Things will be easier if you can buy out your suppliers, which means that you ensure good and less expensive resources for your company, and if you offer differentiated products at reasonable prices, your competitors cannot really imitate so well. Thank you for watching this video. There is an exercise for you, which actually helps you to revise what we have just discussed. Enjoy.