Porter’s five forces model is an analysis tool that uses five industry forces to determine the intensity of competition in an industry and its profitability level.
The following steps are to be followed to implement Porter’s Model:
• Step 1. Gather the information on each of the five forces
• Step 2. Analyze the results and display them on a diagram
• Step 3. Formulate strategies based on the conclusions
Step 1. Gather the information on each of the five forces. What managers should do during this step is to gather information about their industry and to check it against each of the factors (such as “number of competitors in the industry”) influencing the force. We have already identified the most important factors in the table below.
Porter’s Five Forces Factors
Threat of new entry
• Amount of capital required
• Retaliation by existing companies
• Legal barriers (patents, copyrights, etc.)
• Brand reputation
• Product differentiation
• Access to suppliers and distributors
• Economies of scale
• Sunk costs
• Government regulation
Supplier power
• Number of suppliers
• Suppliers’ size
• Ability to find substitute materials
• Materials scarcity
• Cost of switching to alternative materials
• Threat of integrating forward
Buyer power
• Number of buyers
• Size of buyers
• Size of each order
• Buyers’ cost of switching suppliers
• There are many substitutes
• Price sensitivity
• Threat of integrating backward
Threat of substitutes
• Number of substitutes
• Performance of substitutes
• Cost of changing
Rivalry among existing competitors
• Number of competitors
• Cost of leaving an industry
• Industry growth rate and size
• Product differentiation
• Competitors’ size
• Customer loyalty
• Threat of horizontal integration
• Level of advertising expense
Step 2. Analyze the results and display them on a diagram. After gathering all the information, you should analyze it and determine how each force is affecting an industry. For example, if there are many companies of equal size operating in the slow growth industry, it means that rivalry between existing companies is strong. Remember that five forces affect different industries differently so don’t use the same results of the analysis for even similar industries.
Step 3. Formulate strategies based on the conclusions. At this stage, managers should formulate the firm’s strategies using the results of the analysis. For example, if it is hard to achieve economies of scale in the market, the company should pursue a cost leadership strategy. Product development strategy should be used if the current market growth is slow and the market is saturated.
Although Porter’s five forces are a valuable tool to analyze an industry’s structure and to formulate a firm’s strategy, it has its limitations and requires supplementary analysis to be done, such as SWOT, PEST, or Value Chain analysis.
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