The five competitive forces that shape strategy
Porter (2008)
Understanding the competitive forces, and their underlying causes, reveals the roots of an industry’s
current profitability while providing a framework for anticipating and influencing competition (and
profitability) over time. A healthy industry structure should be as much a competitive concern to
strategists as their company’s own position. Understanding industry structure is also essential to
effective strategic positioning. Defending against the competitive forces and shaping them in a
company’s favour are crucial to strategy.
Forces that shape competition
The configuration of the five forces differs by industry. The
strongest competitive force or forces determine the
profitability of an industry. Industry structure grows out of a
set of economic and technical characteristics that determine
the strength of each competitive force.
Threat of entry
New entrants to an industry bring new capacity and a desire
to gain market share that puts pressure on prices, costs, and
the rate of investment necessary to compete. The treat of
entry therefore puts a cap on the profit potential of an
industry, as a higher threat forces incumbents to hold down
prices and/or boost investment. Thus is threat of entry, not whether it actually occurs, that holds down
profitability.
Barriers to entry;
1. Supply-side economies of scale
o Arises as a result of large production from spread fixed costs, more efficient
technology, or being better able to demand better terms from suppliers
2. Demand-side benefits of scale
o Network effects; A customers’ willingness to pay increases as the number of other
buyers increases
o Discourage entry by limiting the willingness of customers to buy from a newcomer
and by putting pressure on the newcomers’ prices
3. Customer switching costs
o From needing to alter product specifications, retrain employees, modify processes
4. Capital requirements
o The need to invest large financial resources in order to compete can deter entrants
o Fixed facilities, customer credit, build inventories, start-up losses
o However, if industry returns are attractive and are expected to remain so, investors
will provide entrants with the funds they need (An example is aspiring air carriers;
financing is available to purchase aircraft as they have a high resale value)
5. Incumbency advantages independent of size
o Proprietary technology, preferential access to raw materials, favourable locations,
established brand identity, learning curve
6. Unequal access to distribution channels
o Retailers must have space/be willing to sell your product
o Often a possibility to bypass distribution channels through for example the internet
7. Restrictive government policy
o Can hinder/aid new entry directly or amplify/nullify other barriers
o Licensing requirements, restrictions on foreign investment
Porter (2008)
Understanding the competitive forces, and their underlying causes, reveals the roots of an industry’s
current profitability while providing a framework for anticipating and influencing competition (and
profitability) over time. A healthy industry structure should be as much a competitive concern to
strategists as their company’s own position. Understanding industry structure is also essential to
effective strategic positioning. Defending against the competitive forces and shaping them in a
company’s favour are crucial to strategy.
Forces that shape competition
The configuration of the five forces differs by industry. The
strongest competitive force or forces determine the
profitability of an industry. Industry structure grows out of a
set of economic and technical characteristics that determine
the strength of each competitive force.
Threat of entry
New entrants to an industry bring new capacity and a desire
to gain market share that puts pressure on prices, costs, and
the rate of investment necessary to compete. The treat of
entry therefore puts a cap on the profit potential of an
industry, as a higher threat forces incumbents to hold down
prices and/or boost investment. Thus is threat of entry, not whether it actually occurs, that holds down
profitability.
Barriers to entry;
1. Supply-side economies of scale
o Arises as a result of large production from spread fixed costs, more efficient
technology, or being better able to demand better terms from suppliers
2. Demand-side benefits of scale
o Network effects; A customers’ willingness to pay increases as the number of other
buyers increases
o Discourage entry by limiting the willingness of customers to buy from a newcomer
and by putting pressure on the newcomers’ prices
3. Customer switching costs
o From needing to alter product specifications, retrain employees, modify processes
4. Capital requirements
o The need to invest large financial resources in order to compete can deter entrants
o Fixed facilities, customer credit, build inventories, start-up losses
o However, if industry returns are attractive and are expected to remain so, investors
will provide entrants with the funds they need (An example is aspiring air carriers;
financing is available to purchase aircraft as they have a high resale value)
5. Incumbency advantages independent of size
o Proprietary technology, preferential access to raw materials, favourable locations,
established brand identity, learning curve
6. Unequal access to distribution channels
o Retailers must have space/be willing to sell your product
o Often a possibility to bypass distribution channels through for example the internet
7. Restrictive government policy
o Can hinder/aid new entry directly or amplify/nullify other barriers
o Licensing requirements, restrictions on foreign investment
