1)Porter's five forces is a framework for the industry analysis and business strategy

development formed by Michael E. Porter of Harvard Business School in 1979. It draws

upon Industrial Organization (IO) economics to derive five forces that determine the
competitive intensity and therefore attractiveness of a market. Attractiveness in this
context refers to the overall industry profitability. An "unattractive" industry is one in
which the combination of these five forces acts to drive down overall profitability. A very
unattractive industry would be one approaching "pure competition", in which available
profits for all firms are driven down to zero.

Three of Porter's five forces refer to competition from external sources. The remainder
are internal threats.

Porter referred to these forces as the micro environment, to contrast it with the more
general term macro environment. They consist of those forces close to a company that
affect its ability to serve its customers and make a profit. A change in any of the forces
normally, requires a business unit to re-assess the marketplace given the overall change in
industry information. The overall industry attractiveness does not imply that every firm in
the industry will return the same profitability. Firms are able to apply their core
competencies, business model or network to achieve a profit above the industry average.
A clear example of this is the airline industry. As an industry, profitability is low and yet
individual companies, by applying unique business models, have been able to make a
return in excess of the industry average.

Porter's five forces include - three forces from 'horizontal' competition: threat of
substitute products, the threat of established rivals, and the threat of new entrants; and
two forces from 'vertical' competition: the bargaining power of suppliers and the
bargaining power of customers.

This five forces analysis, is just one part of the complete Porter strategic models. The
other elements are the value chain and the generic strategies.[citation needed]

Porter developed his Five Forces analysis in reaction to the then-popular SWOT analysis,
which he found unrigorous and ad hoc

The threat of the entry of new competitors

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. Unless
the entry of new firms can be blocked by incumbents, the abnormal profit rate will fall
towards zero (perfect competition).
 • The existence of barriers to entry (patents, rights, etc.) The most attractive
segment is one in which entry barriers are high and exit barriers are low. Few new
firms can enter and non-performing firms can exit easily.
• Economies of product differences
• Brand equity
• Switching costs or sunk costs
• Capital requirements
• Access to distribution
• Customer loyalty to established brands
• Absolute cost* Industry profitability; the more profitable the industry the more
attractive it will be to new competitors

The intensity of competitive rivalry

For most industries, the intensity of competitive rivalry is the major determinant of the
competitiveness of the industry.

• Sustainable competitive advantage through innovation

• Competition between online and offline companies; click-and-mortar -v- slags on
a bridge[citation needed]
• Level of advertising expense
• Powerful competitive strategy
• The visibility of proprietary items on the Web[2] used by a company which can
intensify competitive pressures on their rivals.

How will competition react to a certain behavior by another firm? 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. Examples of recent
technology advantage in have been mp3 players and mobile telephones. Vertical
integration is a strategy to reduce a business' own cost and thereby intensify pressure on
its rival

The threat of substitute products or services

The existence of products outside of the realm of the common product boundaries
increases the propensity of customers to switch to alternatives:

• 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.
 • Substandard product
• Quality depreciation

The bargaining power of customers (buyers)

The bargaining power of customers is 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.

• Buyer concentration to firm concentration ratio

• Degree of dependency upon existing channels of distribution
• Bargaining leverage, particularly in industries with high fixed costs
• Buyer volume
• Buyer switching costs relative to firm switching costs
• Buyer information availability
• Ability to backward integrate
• Availability of existing substitute products
• Buyer price sensitivity
• Differential advantage (uniqueness) of industry products
• RFM Analysis

The bargaining power of suppliers

The bargaining power of suppliers is also described as the market of inputs. Suppliers of
raw materials, components, labor, 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.

• 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. labor unions)
• Supplier competition - ability to forward vertically integrate and cut out the buyer

Ex. If you are making biscuits and there is only one person who sells flour, you have no
alternative but to buy it from him.

Usage
Strategy consultants occasionally use Porter's five forces framework when making a
qualitative evaluation of a firm's strategic position. However, for most consultants, the
framework is only a starting point or "checklist" they might use " Value Chain "
afterward. Like all general frameworks, an analysis that uses it to the exclusion of
specifics about a particular situation is considered naїve.

According to Porter, the five forces model should be used at the line-of-business industry
level; it is not designed to be used at the industry group or industry sector level. An
industry is defined at a lower, more basic level: a market in which similar or closely
related products and/or services are sold to buyers. (See industry information.) A firm
that competes in a single industry should develop, at a minimum, one five forces analysis
for its industry. Porter makes clear that for diversified companies, the first fundamental
issue in corporate strategy is the selection of industries (lines of business) in which the
company should compete; and each line of business should develop its own, industry-
specific, five forces analysis. The average Global 1,000 company competes in
approximately 52 industries (lines of business).

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2) Introduction

There is continuing interest in the study of the forces that impact on an organisation,
particularly those that can be harnessed to provide competitive advantage. The ideas and
models which emerged during the period from 1979 to the mid-1980s (Porter, 1998) were
based on the idea that competitive advantage came from the ability to earn a return on
investment that was better than the average for the industry sector (Thurlby, 1998).

As Porter's 5 Forces analysis deals with factors outside an industry that influence the
nature of competition within it, the forces inside the industry (microenvironment) that
influence the way in which firms compete, and so the industry’s likely profitability is
conducted in Porter’s five forces model. A business has to understand the dynamics of its
industries and markets in order to compete effectively in the marketplace. Porter (1980a)
defined the forces which drive competition, contending that the competitive environment
is created by the interaction of five different forces acting on a business. In addition to
rivalry among existing firms and the threat of new entrants into the market, there are also
the forces of supplier power, the power of the buyers, and the threat of substitute products
or services. Porter suggested that the intensity of competition is determined by the
relative strengths of these forces.

Main Aspects of Porter’s Five Forces Analysis

The original competitive forces model, as proposed by Porter, identified five forces
which would impact on an organization’s behaviour in a competitive market. These
include the following:

• The rivalry between existing sellers in the market.

• The power exerted by the customers in the market.
 • The impact of the suppliers on the sellers.
• The potential threat of new sellers entering the market.
• The threat of substitute products becoming available in the market.

Understanding the nature of each of these forces gives organizations the necessary
insights to enable them to formulate the appropriate strategies to be successful in their
market (Thurlby, 1998).

Force 1: The Degree of Rivalry

The intensity of rivalry, which is the most obvious of the five forces in an industry, helps
determine the extent to which the value created by an industry will be dissipated through
head-to-head competition. The most valuable contribution of Porter's “five forces”
framework in this issue may be its suggestion that rivalry, while important, is only one of
several forces that determine industry attractiveness.

• This force is located at the centre of the diagram;

• Is most likely to be high in those industries where there is a threat of substitute
products; and existing power of suppliers and buyers in the market.

Force 2: The Threat of Entry

Both potential and existing competitors influence average industry profitability. The
threat of new entrants is usually based on the market entry barriers. They can take diverse
forms and are used to prevent an influx of firms into an industry whenever profits,
adjusted for the cost of capital, rise above zero. In contrast, entry barriers exist whenever
it is difficult or not economically feasible for an outsider to replicate the incumbents’
position (Porter, 1980b; Sanderson, 1998) The most common forms of entry barriers,
except intrinsic physical or legal obstacles, are as follows:

• Economies of scale: for example, benefits associated with bulk purchasing;

• Cost of entry: for example, investment into technology;
• Distribution channels: for example, ease of access for competitors;
• Cost advantages not related to the size of the company: for example, contacts and
expertise;
• Government legislations: for example, introduction of new laws might weaken
company’s competitive position;
• Differentiation: for example, a certain brand that cannot be copied (The
Champagne)

Force 3: The Threat of Substitutes

The threat that substitute products pose to an industry's profitability depends on the
relative price-to-performance ratios of the different types of products or services to which
customers can turn to satisfy the same basic need. The threat of substitution is also
affected by switching costs – that is, the costs in areas such as retraining, retooling and
redesigning that are incurred when a customer switches to a different type of product or
service. It also involves:
 • Product-for-product substitution (email for mail, fax); is based on the substitution
of need;
• Generic substitution (Video suppliers compete with travel companies);
• Substitution that relates to something that people can do without (cigarettes,
alcohol).

Force 4: Buyer Power

Buyer power is one of the two horizontal forces that influence the appropriation of the
value created by an industry (refer to the diagram). The most important determinants of
buyer power are the size and the concentration of customers. Other factors are the extent
to which the buyers are informed and the concentration or differentiation of the
competitors. Kippenberger (1998) states that it is often useful to distinguish potential
buyer power from the buyer's willingness or incentive to use that power, willingness that
derives mainly from the “risk of failure” associated with a product's use.

• This force is relatively high where there a few, large players in the market, as it is
the case with retailers an grocery stores;
• Present where there is a large number of undifferentiated, small suppliers, such as
small farming businesses supplying large grocery companies;
• Low cost of switching between suppliers, such as from one fleet supplier of trucks
to another.

Force 5: Supplier Power

Supplier power is a mirror image of the buyer power. As a result, the analysis of supplier
power typically focuses first on the relative size and concentration of suppliers relative to
industry participants and second on the degree of differentiation in the inputs supplied.
The ability to charge customers different prices in line with differences in the value
created for each of those buyers usually indicates that the market is characterized by high
supplier power and at the same time by low buyer power (Porter, 1998). Bargaining
power of suppliers exists in the following situations:

• Where the switching costs are high (switching from one Internet provider to
another);
• High power of brands (McDonalds, British Airways, Tesco);
• Possibility of forward integration of suppliers (Brewers buying bars);
• Fragmentation of customers (not in clusters) with a limited bargaining power
(Gas/Petrol stations in remote places).

The nature of competition in an industry is strongly affected by the suggested five forces.
The stronger the power of buyers and suppliers, and the stronger the threats of entry and
substitution, the more intense competition is likely to be within the industry. However,
these five factors are not the only ones that determine how firms in an industry will
compete – the structure of the industry itself may play an important role. Indeed, the
whole five-forces framework is based on an economic theory know as the “Structure-
Conduct-Performance” (SCP) model: the structure of an industry determines
organizations’ competitive behaviour (conduct), which in turn determines their
profitability (performance). In concentrated industries, according to this model,
organizations would be expected to compete less fiercely, and make higher profits, than
in fragmented ones. However, as Haberberg and Rieple (2001) state, the histories and
cultures of the firms in the industry also play a very important role in shaping competitive
behaviour, and the predictions of the SCP model need to be modified accordingly.

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Porter's 5 Forces

A framework for diagnosing industry structure, built around five competitive forces that
erode long-term industry average profitability. The industry structure framework can be
applied at the level of the industry, the strategic group (or group of firms with similar
strategies) or even the individual firm. Its ultimate function is to explain the
sustainability of profits against bargaining and against direct and indirect competition.

Porter's five forces, or factors that shape business strategy are:

• Threat of entry to the market from other organisations

• Supplier power
• Buyer power
• Availability of substitute products
• Existing competitors

The elements involved with each force are shown in the lists below

Entry Barriers

• Economies of scale
• Proprietary product differences
• Brand identity
• Switching costs
• capital requirements
• Access to distribution
• Absolute cost advantages
• Proprietary learning curve
• Access to necessary inputs