Background to The Five Forces Analysis Model (Vanessa)

The Five Forces Analysis model was first introduced in the Harvard Business Review in 1979 in an
article by Michael Porter called How Competitive Forces Shape Strategy.
It was then a major element in Michael Porters book, Competitive Strategy.

In 2008 Michael Porter returned to the Five Forces Model with an updated article in the Harvard
Business Review called The Five Competitive Forces That Shape Strategy.
For more than thirty years, the Five Forces Analysis has become the standard way to analyze an
industry, look at changes that are taking place and to think about how a business can best position
itself to defend against damaging forces and maximize opportunities where the forces are weak.

The Sources of Profit (Valeria)

The principle behind Michael Porters ideas is that profit only comes from two sources:

1. Operating in an industry with an attractive structure as defined by the five forces analysis model
2. Having a sustainable competitive advantage

In simple terms, an attractive industry is about the balance of supply and demand. If demand is
greater than supply, then businesses should find it easy to make a profit. If supply is greater than
demand, then the business needs a competitive advantage to survive the competition process.
Of course things arent that simple in the real world. Michael Porter argues that the Five Forces
analysis model identifies the key factors which determine the average profitability of an industry.

Michael Porter Five Forces Analysis Model (Paola)

The roots of the Five Forces analysis model lie in industrial economics and represent many of the key
assumptions in the model of perfect competition. These assumptions keep the supply and demand within a
market in equilibrium and stop firms who compete from earning big profits or making big losses.

The five forces that Michael Porter identified are: (Marcos)

The threat of new entrants

The bargaining power of customers
The bargaining power of suppliers
The threat of substitutes
The rivalry among existing firms.

The threat of new entrants (Oscarina)

Profitable markets that yield high returns will attract new firms. This results in many new entrants,
which eventually will decrease profitability for all firms in the industry. Common barriers to entry
include:

Government policy

Capital requirements
 Absolute cost

Legal barriers and patents

The bargaining power of suppliers (Luis)

The bargaining power of suppliers is also described as the market of inputs. Suppliers of raw
materials, components, labor, and services to the firm, can be a source of power over the firm when
there are few substitutes. If you are making biscuits and there is only one person who sells flour, you
have no alternative but to buy it from them. Potential factors:
Supplier switching costs relative to firm switching costs
Degree of differentiation of inputs
Impact of inputs on cost and differentiation

The bargaining power of customers (Maria)

The bargaining power of customers are also described as the market of outputs: the ability of
customers to put the firm under pressure, which also affects the customer's sensitivity to price
changes. Firms can take measures to reduce buyer power, such as implementing a loyalty program.
e.g. If a large number of customers will act with each other and ask to make prices low the company
will have no other choice because of large number of customers pressure. Potential factors:
Buyer switching costs relative to firm switching costs
Buyer information availability
Force down prices
Threat of substitutes (Manuel)
The existence of products outside of the realm of the common product boundaries increases
the propensity of customers to switch to alternatives. For example, tap water might be considered a
substitute for Coke, whereas Pepsi is a competitor's similar product. Potential factors:
Buyer propensity to substitute
Relative price performance of substitute
Buyer switching costs
Industry rivalry (Hugo)
For most industries the intensity of competitive rivalry is the major determinant of the competitiveness
of the industry. Potential factors:
Competition between online and offline companies
Level of advertising expense
Powerful competitive strategy

How The Five Forces Analysis Model Works(Saul)

Customers, suppliers and competitors compete for the profit from the value created by the
industry which is limited by substitutes or alternative solutions to the underlying customer
needs.

When Is the Five Forces Analysis Model Most Effective? (Patricia)

The Five Forces analysis model gives more insight when you are considering entering a new market
than for small businesses who are already firmly entrenched in established markets. This is because
the model helps to identify the threats to making superior profits before youve made the commitment.
The Five Forces model can be used to identify market segments which are protected from the worst
of the forces but a business cant keep switching positions with different products and customers.

Common mistakes to using the Five Forces analysis include: (Stephany)

Inappropriate definitions of the market / industry which may be too narrow or too broad. If in
doubt and youre juggling with two market definitions, try both. You may be able eliminate one
quickly because it doesnt feel right or both might give you valuable but different insights.
Making a list of issues rather than thinking through the implications and finding strategic insight
about whats happening.
Making black and white judgements about the industry, either that it is attractive or unattractive
without identifying the strategic implications.