Michael Porter 5 Forces Model Michael Porter's 5 forces model is a widely used tool for analyzing industry structure.

According to Porter, understanding the impact of these competitive forces enables organizations to better see their own strengths and weaknesses, the threats and opportunities within the industry, and the areas in which strategic change is likely to be most effective. This is useful; because it helps you understand both the strength of your current competitive position, and the strength of a position you're to move into the market. It gives clear understanding of where power lies; one can take fair advantage of a situation of strength, improve a situation of weakness, and avoid taking wrong steps. This makes it an important part of your planning toolkit. Interpretation of the model: 1. This tool is used to identify whether new products, services or businesses have the potential to be profitable. 2. Awareness of the five forces can help a company understand the structure of its industry and stake out a position that is more profitable and less vulnerable to attack. 3. Understanding the competitive forces, and their underlying causes, reveals the roots of an industrys current profitability because they influence the prices, cost and required investments of firms in an industry. 4. Understanding industry structure is also essential to effective strategic positioning as defending against the competitive forces and shaping them in a companys favour are crucial to strategy. 5. Industry structure grows out of a set of economic and technical characteristics that determine the strength of each competitive force. Therefore, suitable strategy must be formed which would be the competitive edge for the company in such context. 6. It determines attractiveness of an industry and their underlying causes, as well as how these forces change over time and can be influenced through strategy. 7. It also shows how to analyse competitors into strategic group and assess the most attractive positions in an industry.

Understanding the Tool: Five Forces Analysis assumes that there are five important forces that determine competitive power in a business situation. Three of Porter's five forces refer to competition from external sources. The remainder are internal threats. These are: - The threat of entry of new competitors (new entrants) - The threat of substitutes - The bargaining power of buyers - The bargaining power of suppliers - The degree of rivalry between existing competitors

1. The threat of entry of new entrants: New entrants to an industry can raise the level of competition, thereby reducing its attractiveness. The threat of new entrants largely depends on the barriers to entry. High entry barriers exist in some industries whereas other industries are very easy to enter. Key barriers to entry include: 1. 2. 3. 4. 5. 6. 7. 8. 9. Economies of scale Capital / investment requirements Customer switching costs Access to industry distribution channels The likelihood of retaliation from existing industry player government policy prevents entry or makes it more difficult Existing brands have high level of loyalty the existing firms may react aggressively to any new entrant e.g. with a price war the existing firms have control of the supplies

2. Bargaining Power of Buyers: They are people or organizations who create demand in industry. It helps to understand the bargaining power of buyer in an industry. The stronger the power of buyers in an industry the more likely it is that they will be able to force down prices and reduce the profits of firms that provide the product. Bargaining power of the buyer is greater when: 1. The buyers can easily switch to other providers so the provider needs to provide a high quality service at a good price 2. The buyers are in position to take over the firm. If they have the resources to buy the provider this threat can lead to a better service because they have real negotiating power 3. There are few dominant buyers and many sellers in the industry 4. Products are standardised 5. Buyers threaten to integrate backward into the industry 6. Suppliers do not threaten to integrate forward into the buyer's industry 7. The industry is not a key supplying group for buyers

3. The threat of substitute products or services The existence of products outside of the territory of the common product boundaries increases the propensity of customers to switch to alternatives: 1. 2. 3. 4. 5. 6. Buyer propensity to substitute Relative price performance of substitute Buyer switching costs Perceived level of product differentiation Number of substitute products available in the market Ease of substitution. Information-based products are more prone to substitution, as online product can easily replace material product. 7. Substandard product 8. Quality depreciation

4. The bargaining power of suppliers The bargaining power of suppliers is also described as the market of inputs. Suppliers of raw materials, components, labour, and services (such as expertise) to the firm can be a source of power over the firm, when there are few substitutes. Suppliers may refuse to work with the firm, or, e.g., charge excessively high prices for unique resources.

1) 2) 3) 4) 5) 6) 7) 8)

Supplier switching costs relative to firm switching costs Degree of differentiation of inputs Impact of inputs on cost or differentiation Presence of substitute inputs Strength of distribution channel Supplier concentration to firm concentration ratio Employee solidarity (e.g. labour unions) Supplier competition - ability to forward vertically integrate and cut out the buyer

5. The intensity of competitive rivalry For most industries, the intensity of competitive rivalry is the major determinant of the competitiveness of the industry. 1) 2) 3) 4) 5) Sustainable competitive advantage through innovation Competition between online and offline companies Level of advertising expense Powerful competitive strategy Visibility of proprietary items on the Web used by a company which can intensify competitive pressures on their rivals.

Competitive rivalry is likely to be based on dimensions such as price, quality, and innovation. Technological advances protect companies from competition. This applies to products and services. Companies that are successful with introducing new technology are able to charge higher prices and achieve higher profits, until competitors imitate them. Thus, Five Forces Analysis helps the marketer to understand the environment. It has similarities with other tools for environmental audit, such as PEST analysis, but tends to focus on the single, business or SBU (Strategic Business Unit) rather than a single product or range of products.